[Federal Register Volume 72, Number 86 (Friday, May 4, 2007)]
[Proposed Rules]
[Pages 25526-25600]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 07-2180]



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Part IV





Department of Health and Human Services





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Centers for Medicare & Medicaid Services



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42 CFR Part 413



Medicare Program; Prospective Payment System and Consolidated Billing 
for Skilled Nursing Facilities for FY 2008; Proposed Rule

  Federal Register / Vol. 72, No. 86 / Friday, May 4, 2007 / Proposed 
Rules  

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DEPARTMENT OF HEALTH AND HUMAN SERVICES

Centers for Medicare & Medicaid Services

42 CFR Part 413

[CMS-1545-P]
RIN 0938-AO64


Medicare Program; Prospective Payment System and Consolidated 
Billing for Skilled Nursing Facilities for FY 2008

AGENCY: Centers for Medicare & Medicaid Services (CMS), HHS.

ACTION: Proposed rule.

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SUMMARY: This proposed rule would update the payment rates used under 
the prospective payment system (PPS) for skilled nursing facilities 
(SNFs), for fiscal year (FY) 2008. In addition, this proposed rule 
would revise and rebase the SNF market basket, and would modify the 
threshold for the adjustment to account for market basket forecast 
error.

DATES: To be assured consideration, comments must be received at one of 
the addresses provided below, no later than 5 p.m. on June 29, 2007.

ADDRESSES: In commenting, please refer to file code CMS-1545-P. Because 
of staff and resource limitations, we cannot accept comments by 
facsimile (FAX) transmission.
    You may submit comments in one of four ways (no duplicates, 
please):
    1. Electronically. You may submit electronic comments on specific 
issues in this regulation to http://www.cms.hhs.gov/eRulemaking. Click 
on the link ``Submit electronic comments on CMS regulations with an 
open comment period.'' (Attachments should be in Microsoft Word, 
WordPerfect, or Excel; however, we prefer Microsoft Word.)
    2. By regular mail. You may mail written comments (one original and 
two copies) to the following address ONLY: Centers for Medicare & 
Medicaid Services, Department of Health and Human Services, Attention: 
CMS-1545-P, P.O. Box 8016, Baltimore, MD 21244-8016.
    Please allow sufficient time for mailed comments to be received 
before the close of the comment period.
    3. By express or overnight mail. You may send written comments (one 
original and two copies) to the following address ONLY: Centers for 
Medicare & Medicaid Services, Department of Health and Human Services, 
Attention: CMS-1545-P, Mail Stop C4-26-05, 7500 Security Boulevard, 
Baltimore, MD 21244-1850.
    4. By hand or courier. If you prefer, you may deliver (by hand or 
courier) your written comments (one original and two copies) before the 
close of the comment period to one of the following addresses. If you 
intend to deliver your comments to the Baltimore address, please call 
telephone number (410) 786-9994 in advance to schedule your arrival 
with one of our staff members. Room 445-G, Hubert H. Humphrey Building, 
200 Independence Avenue, SW., Washington, DC 20201; or 7500 Security 
Boulevard, Baltimore, MD 21244-1850.
    (Because access to the interior of the HHH Building is not readily 
available to persons without Federal Government identification, 
commenters are encouraged to leave their comments in the CMS drop slots 
located in the main lobby of the building. A stamp-in clock is 
available for persons wishing to retain a proof of filing by stamping 
in and retaining an extra copy of the comments being filed.)
    Comments mailed to the addresses indicated as appropriate for hand 
or courier delivery may be delayed and received after the comment 
period.
    For information on viewing public comments, see the beginning of 
the SUPPLEMENTARY INFORMATION section.

FOR FURTHER INFORMATION CONTACT: Ellen Berry, (410) 786-4528 (for 
information related to the case-mix classification methodology). Mollie 
Knight, (410) 786-7948 (for information related to the SNF market 
basket and labor-related share). Jeanette Kranacs, (410) 786-9385 (for 
information related to the development of the payment rates). Bill 
Ullman, (410) 786-5667 (for information related to level of care 
determinations, consolidated billing, and general information).

SUPPLEMENTARY INFORMATION:
    Submitting Comments: We welcome comments from the public on all 
issues set forth in this rule to assist us in fully considering issues 
and developing policies. You can assist us by referencing the file code 
CMS-1545-P and the specific ``issue identifier'' that precedes the 
section on which you choose to comment.
    Inspection of Public Comments: All comments received before the 
close of the comment period are available for viewing by the public, 
including any personally identifiable or confidential business 
information that is included in a comment. We post all comments 
received before the close of the comment period on the following Web 
site as soon as possible after they have been received: http://www.cms.hhs.gov/eRulemaking. Click on the link ``Electronic Comments on 
CMS Regulations'' on that Web site to view public comments.
    Comments received timely will also be available for public 
inspection as they are received, generally beginning approximately 3 
weeks after publication of a document, at the headquarters of the 
Centers for Medicare & Medicaid Services, 7500 Security Boulevard, 
Baltimore, Maryland 21244, Monday through Friday of each week from 8:30 
a.m. to 4 p.m. To schedule an appointment to view public comments, 
phone 1-800-743-3951.
    To assist readers in referencing sections contained in this 
document, we are providing the following Table of Contents.

Table of Contents

I. Background
    A. Current System for Payment of SNF Services Under Part A of 
the Medicare Program
    B. Requirements of the Balanced Budget Act of 1997 (BBA) for 
Updating the Prospective Payment System for Skilled Nursing 
Facilities
    C. The Medicare, Medicaid, and SCHIP Balanced Budget Refinement 
Act of 1999 (BBRA)
    D. The Medicare, Medicaid, and SCHIP Benefits Improvement and 
Protection Act of 2000 (BIPA)
    E. The Medicare Prescription Drug, Improvement, and 
Modernization Act of 2003 (MMA)
    F. Skilled Nursing Facility Prospective Payment System--General 
Overview
    1. Payment Provisions--Federal Rate
    2. Rate Updates Using the Skilled Nursing Facility Market Basket 
Index
II. Annual Update of Payment Rates Under the Prospective Payment 
System for Skilled Nursing Facilities
    A. Federal Prospective Payment System
    1. Costs and Services Covered by the Federal Rates
    2. Methodology Used for the Calculation of the Federal Rates
    B. Case-Mix Refinements
    C. Wage Index Adjustment to Federal Rates
    D. Updates to Federal Rates
    E. Relationship of RUG-III Classification System to Existing 
Skilled Nursing Facility Level-of-Care Criteria
    F. Example of Computation of Adjusted PPS Rates and SNF Payment
III. The Skilled Nursing Facility Market Basket Index
    A. Use of the Skilled Nursing Facility Market Basket Percentage
    B. Market Basket Forecast Error Adjustment
    C. Federal Rate Update Factor
IV. Revising and Rebasing the Skilled Nursing Facility Market Basket 
Index
    A. Background
    B. Rebasing and Revising the Skilled Nursing Facility Market 
Basket
    C. Price Proxies Used to Measure Cost Category Growth

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    1. Wages and Salaries
    2. Employee Benefits
    3. All Other Expenses
    4. Capital-Related
    D. Proposed Market Basket Estimate for the FY 2008 SNF Update
V. Consolidated Billing
VI. Application of the SNF PPS to SNF Services Furnished by Swing-
Bed Hospitals
VII. Provisions of the Proposed Rule
VIII. Collection of Information Requirements
IX. Regulatory Impact Analysis
    A. Overall Impact
    B. Anticipated Effects
    C. Accounting Statement
    D. Alternatives Considered
    E. Conclusion
Addendum: FY 2008 CBSA Wage Index Tables (Tables 8 & 9)

Abbreviations

    In addition, because of the many terms to which we refer by 
abbreviation in this proposed rule, we are listing these abbreviations 
and their corresponding terms in alphabetical order below:

ADL Activity of Daily Living
AIDS Acquired Immune Deficiency Syndrome
ARD Assessment Reference Date
BBA Balanced Budget Act of 1997, Pub. L. 105-33
BBRA Medicare, Medicaid and SCHIP Balanced Budget Refinement Act of 
1999, Pub. L. 106-113
BIPA Medicare, Medicaid, and SCHIP Benefits Improvement and Protection 
Act of 2000, Pub. L. 106-554
BLS Bureau of Labor Statistics
CAH Critical Access Hospital
CBSA Core-Based Statistical Area
CFR Code of Federal Regulations
CMS Centers for Medicare & Medicaid Services
CPT (Physicians') Current Procedural Terminology
DRA Deficit Reduction Act of 2005, Pub. L. 109-171
DRG Diagnosis Related Group
ECI Employment Cost Index
FI Fiscal Intermediary
FQHC Federally Qualified Health Center
FR Federal Register
FY Fiscal Year
GAO Government Accountability Office
HCPCS Healthcare Common Procedure Coding System
HIT Health Information Technology
ICD-9-CM International Classification of Diseases, Ninth Edition, 
Clinical Modification
IFC Interim Final Rule with Comment Period
MDS Minimum Data Set
MEDPAC Medicare Payment Advisory Commission
MEDPAR Medicare Provider Analysis and Review File
MMA Medicare Prescription Drug, Improvement, and Modernization Act of 
2003, Pub. L. 108-173
MSA Metropolitan Statistical Area
NAICS North American Industrial Classification System
OIG Office of the Inspector General
OMB Office of Management and Budget
OMRA Other Medicare Required Assessment
PPI Producer Price Index
PPS Prospective Payment System
RAI Resident Assessment Instrument
RAP Resident Assessment Protocol
RAVEN Resident Assessment Validation Entry
RFA Regulatory Flexibility Act, Pub. L. 96-354
RHC Rural Health Clinic
RIA Regulatory Impact Analysis
RUG-III Resource Utilization Groups, Version III
RUG-53 Refined 53-Group RUG-III Case-Mix Classification System
SCHIP State Children's Health Insurance Program
SIC Standard Industrial Classification System
SNF Skilled Nursing Facility
STM Staff Time Measurement
UMRA Unfunded Mandates Reform Act, Public Law 104-4

I. Background

    [If you choose to comment on issues in this section, please include 
the caption ``BACKGROUND'' at the beginning of your comments.]
    Annual updates to the prospective payment system (PPS) rates for 
skilled nursing facilities (SNFs) are required by section 1888(e) of 
the Social Security Act (the Act), as added by section 4432 of the 
Balanced Budget Act of 1997 (BBA), and amended by the Medicare, 
Medicaid, and SCHIP Balanced Budget Refinement Act of 1999 (BBRA), the 
Medicare, Medicaid, and SCHIP Benefits Improvement and Protection Act 
of 2000 (BIPA), and the Medicare Prescription Drug, Improvement, and 
Modernization Act of 2003 (MMA) relating to Medicare payments and 
consolidated billing for SNFs. Our most recent annual update occurred 
in an update notice (71 FR 43158, July 31, 2006) that set forth updates 
to the SNF PPS payment rates for fiscal year (FY) 2007. We subsequently 
published a correction notice (71 FR 57519, September 29, 2006) with 
respect to those payment rate updates.

A. Current System for Payment of Skilled Nursing Facility Services 
Under Part A of the Medicare Program

    Section 4432 of the Balanced Budget Act of 1997 (BBA) amended 
section 1888 of the Act to provide for the implementation of a per diem 
PPS for SNFs, covering all costs (routine, ancillary, and capital-
related) of covered SNF services furnished to beneficiaries under Part 
A of the Medicare program, effective for cost reporting periods 
beginning on or after July 1, 1998. In this proposed rule, we propose 
to update the per diem payment rates for SNFs for FY 2008. Major 
elements of the SNF PPS include:
     Rates. As discussed in section I.F.1 of this proposed 
rule, we established per diem Federal rates for urban and rural areas 
using allowable costs from FY 1995 cost reports. These rates also 
included an estimate of the cost of services that, before July 1, 1998, 
had been paid under Part B but furnished to Medicare beneficiaries in a 
SNF during a Part A covered stay. We adjust the rates annually using a 
SNF market basket index, and we adjust them by the hospital inpatient 
wage index to account for geographic variation in wages. We also apply 
a case-mix adjustment to account for the relative resource utilization 
of different patient types. This adjustment utilizes a refined, 53-
group version of the Resource Utilization Groups, version III (RUG-III) 
case-mix classification system, based on information obtained from the 
required resident assessments using the Minimum Data Set (MDS) 2.0. 
Additionally, as noted in the August 4, 2005 final rule (70 FR 45028), 
the payment rates at various times have also reflected specific 
legislative provisions, including section 101 of the BBRA, sections 
311, 312, and 314 of the BIPA, and section 511 of the MMA.
     Transition. Under sections 1888(e)(1)(A) and (e)(11) of 
the Act, the SNF PPS included an initial, three-phase transition that 
blended a facility-specific rate (reflecting the individual facility's 
historical cost experience) with the Federal case-mix adjusted rate. 
The transition extended through the facility's first three cost 
reporting periods under the PPS, up to and including the one that began 
in FY 2001. Thus, the SNF PPS is no longer operating under the 
transition, as all facilities have been paid at the full Federal rate 
effective with cost reporting periods beginning in FY 2002. As we now 
base payments entirely on the adjusted Federal per diem rates, we no 
longer include adjustment factors

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related to facility-specific rates for the coming fiscal year.
     Coverage. The establishment of the SNF PPS did not change 
Medicare's fundamental requirements for SNF coverage. However, because 
the RUG-III classification is based, in part, on the beneficiary's need 
for skilled nursing care and therapy, we have attempted, where 
possible, to coordinate claims review procedures with the output of 
beneficiary assessment and RUG-III classifying activities. This 
approach includes an administrative presumption that utilizes a 
beneficiary's initial classification in one of the upper 35 RUGs of the 
refined 53-group system to assist in making certain SNF level of care 
determinations, as discussed in greater detail in section II.E. of this 
proposed rule.
     Consolidated Billing. The SNF PPS includes a consolidated 
billing provision that requires a SNF to submit consolidated Medicare 
bills to its fiscal intermediary for almost all of the services that 
its residents receive during the course of a covered Part A stay. While 
section 313 of the BIPA repealed the Part B aspect of the consolidated 
billing requirement, SNFs maintain responsibility for submitting 
consolidated Medicare bills to the fiscal intermediary for physical, 
occupational, and speech-language therapy that residents receive during 
a noncovered stay. The statute excludes a small list of services from 
the consolidated billing provision (primarily those of physicians and 
certain other types of practitioners), which remain separately billable 
under Part B when furnished to a SNF's Part A resident. A more detailed 
discussion of this provision appears in section V. of this proposed 
rule.
     Application of the SNF PPS to SNF services furnished by 
swing-bed hospitals. Section 1883 of the Act permits certain small, 
rural hospitals to enter into a Medicare swing-bed agreement, under 
which the hospital can use its beds to provide either acute or SNF 
care, as needed. For critical access hospitals (CAHs), Part A pays on a 
reasonable cost basis for SNF services furnished under a swing-bed 
agreement. However, in accordance with section 1888(e)(7) of the Act, 
these services furnished by non-CAH rural hospitals are paid under the 
SNF PPS, effective with cost reporting periods beginning on or after 
July 1, 2002. A more detailed discussion of this provision appears in 
section VI. of this proposed rule.

B. Requirements of the Balanced Budget Act of 1997 (BBA) for Updating 
the Prospective Payment System for Skilled Nursing Facilities

    Section 1888(e)(4)(H) of the Act requires that we publish annually 
in the Federal Register:
    1. The unadjusted Federal per diem rates to be applied to days of 
covered SNF services furnished during the FY.
    2. The case-mix classification system to be applied with respect to 
these services during the FY.
    3. The factors to be applied in making the area wage adjustment 
with respect to these services.
    In the July 30, 1999 final rule (64 FR 41670), we indicated that we 
would announce any changes to the guidelines for Medicare level of care 
determinations related to modifications in the RUG-III classification 
structure (see section II.E of this proposed rule for a discussion of 
the relationship between the case-mix classification system and SNF 
level of care determinations).
    Along with a number of other revisions proposed later in this 
preamble, this proposed rule provides the annual updates to the Federal 
rates as mandated by the Act.

C. The Medicare, Medicaid, and SCHIP Balanced Budget Refinement Act of 
1999 (BBRA)

    There were several provisions in the BBRA that resulted in 
adjustments to the SNF PPS. We described these provisions in detail in 
the final rule that we published in the Federal Register on July 31, 
2000 (65 FR 46770). In particular, section 101(a) of the BBRA provided 
for a temporary 20 percent increase in the per diem adjusted payment 
rates for 15 specified RUG-III groups. In accordance with section 
101(c)(2) of the BBRA, this temporary payment adjustment expired on 
January 1, 2006, upon the implementation of case-mix refinements (see 
section I.F.1. of this proposed rule). We included further information 
on BBRA provisions that affected the SNF PPS in Program Memorandums A-
99-53 and A-99-61 (December 1999).
    Also, section 103 of the BBRA designated certain additional 
services for exclusion from the consolidated billing requirement, as 
discussed in section IV of this proposed rule. Further, for swing-bed 
hospitals with more than 49 (but less than 100) beds, section 408 of 
the BBRA provided for the repeal of certain statutory restrictions on 
length of stay and aggregate payment for patient days, effective with 
the end of the SNF PPS transition period described in section 
1888(e)(2)(E) of the Act. In the July 31, 2001 final rule (66 FR 
39562), we made conforming changes to the regulations at Sec.  
413.114(d), effective for services furnished in cost reporting periods 
beginning on or after July 1, 2002, to reflect section 408 of the BBRA.

D. The Medicare, Medicaid, and SCHIP Benefits Improvement and 
Protection Act of 2000 (BIPA)

    The BIPA also included several provisions that resulted in 
adjustments to the SNF PPS. We described these provisions in detail in 
the final rule that we published in the Federal Register on July 31, 
2001 (66 FR 39562). In particular:
     Section 203 of the BIPA exempted CAH swing-beds from the 
SNF PPS. We included further information on this provision in Program 
Memorandum A-01-09 (Change Request 1509), issued January 16, 
2001, which is available online at www.cms.hhs.gov/transmittals/downloads/a0109.pdf.
     Section 311 of the BIPA revised the statutory update 
formula for the SNF market basket, and also directed us to conduct a 
study of alternative case-mix classification systems for the SNF PPS. 
In 2006, we submitted a report to the Congress on this study, which is 
available online at www.cms.hhs.gov/SNFPPS/Downloads/RC_2006_PC-PPSSNF.pdf.
     Section 312 of the BIPA provided for a temporary increase 
of 16.66 percent in the nursing component of the case-mix adjusted 
Federal rate for services furnished on or after April 1, 2001, and 
before October 1, 2002. The add-on is no longer in effect. This section 
also directed the General Accounting Office (GAO) to conduct an audit 
of SNF nursing staff ratios and submit a report to the Congress on 
whether the temporary increase in the nursing component should be 
continued. The report (GAO-03-176), which GAO issued in November 2002, 
is available online at www.gao.gov/new.items/d03176.pdf.
     Section 313 of the BIPA repealed the consolidated billing 
requirement for services (other than physical, occupational, and 
speech-language therapy) furnished to SNF residents during noncovered 
stays, effective January 1, 2001. (A more detailed discussion of this 
provision appears in section V. of this proposed rule.)
     Section 314 of the BIPA corrected an anomaly involving 
three of the RUGs that the BBRA had designated to receive the temporary 
payment adjustment discussed above in section I.C. of this proposed 
rule. (As noted previously, in accordance with section 101(c)(2) of the

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BBRA, this temporary payment adjustment expired upon the implementation 
of case-mix refinements on January 1, 2006.)
     Section 315 of the BIPA authorized us to establish a 
geographic reclassification procedure that is specific to SNFs, but 
only after collecting the data necessary to establish a SNF wage index 
that is based on wage data from nursing homes. At this time, this has 
proven to be infeasible due to the volatility of existing SNF wage data 
and the significant amount of resources that would be required to 
improve the quality of that data.
    We included further information on several of the BIPA provisions 
in Program Memorandum A-01-08 (Change Request 1510), issued 
January 16, 2001, which is available online at www.cms.hhs.gov/transmittals/downloads/a0108.pdf.

E. The Medicare Prescription Drug, Improvement, and Modernization Act 
of 2003 (MMA)

    The MMA included a provision that results in a further adjustment 
to the SNF PPS. Specifically, section 511 of the MMA amended section 
1888(e)(12) of the Act to provide for a temporary increase of 128 
percent in the PPS per diem payment for any SNF resident with Acquired 
Immune Deficiency Syndrome (AIDS), effective with services furnished on 
or after October 1, 2004. This special AIDS add-on was to remain in 
effect until ``* * * such date as the Secretary certifies that there is 
an appropriate adjustment in the case mix * * *.'' The AIDS add-on is 
also discussed in Program Transmittal 160 (Change Request 
3291), issued on April 30, 2004, which is available online at 
www.cms.hhs.gov/transmittals/downloads/r160cp.pdf. As discussed in the 
SNF PPS final rule for FY 2006 (70 FR 45028, August 4, 2005), we did 
not address the certification of the AIDs add-on with the 
implementation of the case-mix refinements, thus allowing the temporary 
add-on payment created by section 511 of the MMA to continue in effect.
    For the limited number of SNF residents that qualify for the AIDS 
add-on, implementation of this provision results in a significant 
increase in payment. For example, using 2005 data, we identified 1276 
SNF residents with a principal diagnosis code of 042 (``Human 
Immunodeficiency Virus (HIV) Infection''). For FY 2008, an urban 
facility with a resident with AIDS in RUG group ``SSA'' would have a 
case-mix adjusted payment of almost $250.91 (see Table 4) before the 
application of the MMA adjustment. After an increase of 128 percent, 
this urban facility would receive a case-mix adjusted payment of 
approximately $572.07.
    In addition, section 410 of the MMA contained a provision that 
excluded from consolidated billing certain practitioner and other 
services furnished to SNF residents by rural health clinics (RHCs) and 
Federally Qualified Health Centers (FQHCs). (A more detailed discussion 
of this provision appears in section V. of this proposed rule.)

F. Skilled Nursing Facility Prospective Payment System--General 
Overview

    We implemented the Medicare SNF PPS effective with cost reporting 
periods beginning on or after July 1, 1998. This PPS pays SNFs through 
prospective, case-mix adjusted per diem payment rates applicable to all 
covered SNF services. These payment rates cover all costs of furnishing 
covered skilled nursing services (routine, ancillary, and capital-
related costs) other than costs associated with approved educational 
activities. Covered SNF services include post-hospital services for 
which benefits are provided under Part A and all items and services 
that, before July 1, 1998, had been paid under Part B (other than 
physician and certain other services specifically excluded under the 
BBA) but were furnished to Medicare beneficiaries in a SNF during a 
covered Part A stay. A complete discussion of these provisions appears 
in the May 12, 1998 interim final rule (63 FR 26252).
1. Payment Provisions--Federal Rate
    The PPS uses per diem Federal payment rates based on mean SNF costs 
in a base year updated for inflation to the first effective period of 
the PPS. We developed the Federal payment rates using allowable costs 
from hospital-based and freestanding SNF cost reports for reporting 
periods beginning in FY 1995. The data used in developing the Federal 
rates also incorporated an estimate of the amounts that would be 
payable under Part B for covered SNF services furnished to individuals 
during the course of a covered Part A stay in a SNF.
    In developing the rates for the initial period, we updated costs to 
the first effective year of the PPS (the 15-month period beginning July 
1, 1998) using a SNF market basket index, and then standardized for the 
costs of facility differences in case-mix and for geographic variations 
in wages. In compiling the database used to compute the Federal payment 
rates, we excluded those providers that received new provider 
exemptions from the routine cost limits, as well as costs related to 
payments for exceptions to the routine cost limits. Using the formula 
that the BBA prescribed, we set the Federal rates at a level equal to 
the weighted mean of freestanding costs plus 50 percent of the 
difference between the freestanding mean and weighted mean of all SNF 
costs (hospital-based and freestanding) combined. We computed and 
applied separately the payment rates for facilities located in urban 
and rural areas. In addition, we adjusted the portion of the Federal 
rate attributable to wage-related costs by a wage index.
    The Federal rate also incorporates adjustments to account for 
facility case-mix, using a classification system that accounts for the 
relative resource utilization of different patient types. The RUG-III 
classification system uses beneficiary assessment data from the Minimum 
Data Set (MDS) completed by SNFs to assign beneficiaries to one of 53 
RUG-III groups. The original RUG-III case-mix classification system 
included 44 groups. However, under refinements that became effective on 
January 1, 2006, we added nine new groups--comprising a new 
Rehabilitation plus Extensive Services category--at the top of the RUG 
hierarchy. The May 12, 1998 interim final rule (63 FR 26252) included a 
complete and detailed description of the original 44-group RUG-III 
case-mix classification system. A comprehensive description of the 
refined 53-group RUG-III case-mix classification system (RUG-53) 
appeared in the proposed and final rules for FY 2006 (70 FR 29070, May 
19, 2005, and 70 FR 45026, August 4, 2005).
    Further, in accordance with section 1888(e)(4)(E)(ii)(IV) of the 
Act, the Federal rates in this proposed rule reflect an update to the 
rates that we published in the July 31, 2006 final rule for FY 2007 (71 
FR 43158) and the associated correction notice (71 FR 57519, September 
29, 2006), equal to the full change in the SNF market basket index. A 
more detailed discussion of the SNF market basket index and related 
issues appears in sections I.F.2. and III. of this proposed rule.
2. Rate Updates Using the Skilled Nursing Facility Market Basket Index
    Section 1888(e)(5) of the Act requires us to establish a SNF market 
basket index that reflects changes over time in the prices of an 
appropriate mix of goods and services included in covered SNF services. 
We use the SNF market basket index to update the Federal rates on an 
annual basis. For FY 2008, we propose to revise and rebase the market 
basket to reflect 2004 total cost data as detailed in section III.A. 
The proposed

[[Page 25530]]

FY 2008 market basket increase is 3.3 percent. (However, we note that 
both the President's budget and the recommendations of the Medicare 
Payment Advisory Commission (MedPAC) include a proposal for a zero 
percent update in the SNF market basket for FY 2008, and that the 
provisions outlined in this proposed rule would need to reflect any 
legislation that the Congress enacts to adopt this proposal.)
    As explained in the final rule for FY 2004 (66 FR 46058, August 4, 
2003), the annual update of the payment rates includes, as appropriate, 
an adjustment to account for market basket forecast error. When we 
initially proposed the forecast error adjustment (68 FR 34768, June 10, 
2003), we noted that significant previous forecast errors had resulted 
from wages and benefits for SNF workers increasing more rapidly than 
expected. In the SNF PPS final rule for FY 2004, we then proceeded to 
correct for those forecast errors with a one-time, cumulative 
adjustment relating to the FYs 2000 through 2002 updates, resulting in 
a 3.26 percentage point addition to the market basket update. We also 
provided for subsequent adjustments in succeeding fiscal years whenever 
the difference between the forecasted and actual market basket 
increases exceeds a specified threshold, which we indicated at the time 
would likely be 0.25 percentage point.
    However, we believe that it is now appropriate to draw a 
distinction between the kind of exceptional, unanticipated major 
increases in wages and benefits that initially gave rise to this policy 
and the much smaller variances between forecasted and actual change 
that more typically occur from year to year, in recognition that a 
certain level of imprecision is inherently associated with measuring 
statistics. In general, the SNF market basket is expected to reasonably 
project inflationary price pressures. Further, according to MedPAC 
analysis, we note that freestanding SNFs (which represent more than 80 
percent of all SNFs) have received Medicare payments that exceeded 
costs by 10.8 percent or more since 2001, and Medicare margins are 
projected to be 11 percent in 2007. Moreover, following the initial, 
cumulative 3.26 percent forecast error adjustment relating to FYs 2000 
through 2002 updates, the differences between the forecasted and actual 
increases in the market basket for each of the subsequent fiscal years 
have been far smaller in magnitude (0.3 percentage point or less) than 
the ones that originally had prompted the adoption of this policy.
    Accordingly, we believe it would be appropriate at this point to 
recalibrate the specified threshold for triggering a forecast error 
adjustment, in a manner that distinguishes between the major forecast 
errors that gave rise to this policy initially and the far more typical 
minor variances that have consistently occurred in each of the 
succeeding years. As indicated in our original proposal for a forecast 
error adjustment, we believe that establishing a minimum threshold for 
making such adjustments reflects the concept that there is generally a 
minimal amount of imprecision that is inherently associated with 
measuring statistics, and that any such threshold should be 
sufficiently high to screen out small variations that may arise from 
this imprecision. At this point, however, we are concerned that the 
existing 0.25 percentage point threshold may not be high enough to 
accomplish this and to focus instead on the more significant 
variations--those of a magnitude that would indicate a failure to 
reflect accurately the actual historical price changes faced by SNFs--
which the forecast error adjustment was originally created to address.
    We believe that a threshold of 0.5 percentage point represents an 
amount that is sufficiently high to screen out the expected minor 
variances in a projected statistical methodology, while at the same 
time appropriately serving to trigger an adjustment in those instances 
where it is clear that the historical price changes are not being 
adequately reflected. Therefore, this proposed rule would raise the 
threshold for triggering a forecast error adjustment under the SNF PPS 
from the current 0.25 percentage point to 0.5 percentage point, 
effective with FY 2008.
    We are also considering a higher threshold for the forecast error 
adjustment, up to 1.0 percentage point. This would be consistent with 
the relative magnitude of forecast error that is addressed by the 
inpatient hospital capital PPS forecast error adjustment. Both the SNF 
and inpatient hospital capital PPS forecast error adjustments currently 
utilize a 0.25 percent threshold. However, the inpatient hospital 
capital PPS's average annual forecasted market basket update from FY 
1996 through FY 2006 (the period of historical data used for forecast 
error adjustments to date) was approximately 0.9 percent. In contrast, 
the SNF PPS's average annual forecasted market basket update from FY 
2000 through FY 2006 (the period of historical data used for forecast 
error adjustments to date) was approximately 3.1 percent. Thus, the 
0.25 percentage point threshold addressed forecast errors equaling 28 
percent or more of the average annual forecasted market basket update 
under the inpatient hospital capital PPS, compared with 8 percent of 
the average annual forecasted market basket update under the SNF PPS. 
Utilizing a 1 percentage point forecast error adjustment threshold 
under the SNF PPS would address forecast errors equaling 32 percent or 
more of the average annual forecasted market basket update, which is 
more consistent with the relative magnitude of forecast error for which 
adjustment is made under the inpatient hospital capital PPS.
    While this rule proposes applying the new threshold in FY 2008, we 
are also considering delaying implementation of this change to FY 2009. 
We specifically invite comments on increasing the forecast error 
adjustment threshold and making the proposal effective in FY 2009.
    As the difference between the estimated and actual amount of change 
falls below the proposed 0.5 percentage point threshold, no forecast 
error adjustment is appropriate in FY 2008. For FY 2006 (the most 
recently available fiscal year for which there is final data), the 
estimated increase in the market basket index was 3.1 percentage 
points, while the actual increase was 3.4 percentage points, resulting 
in a 0.3 percentage point difference. Table 1 below shows the 
forecasted and actual market basket amount for FY 2006.

  Table 1.--Difference between the Forecasted and Actual Market Basket
                          Increases for FY 2006
------------------------------------------------------------------------
                   Forecasted Actual   Actual FY 2006        FY 2006
      Index        FY 2006 increase*     increase**        difference
------------------------------------------------------------------------
            SNF                3.1                3.4              0.3
------------------------------------------------------------------------
*Published in Federal Register; based on second quarter 2005 Global
  Insight Inc. forecast (97 index).
**Based on the first quarter 2007 Global Insight forecast (97 index).


[[Page 25531]]

II. Annual Update of Payment Rates Under the Prospective Payment System 
for Skilled Nursing Facilities

    [If you choose to comment on issues in this section, please include 
the caption ``Annual Update'' at the beginning of your comments.]

A. Federal Prospective Payment System

    This proposed rule sets forth a schedule of Federal prospective 
payment rates applicable to Medicare Part A SNF services beginning 
October 1, 2007. The schedule incorporates per diem Federal rates that 
provide Part A payment for all costs of services furnished to a 
beneficiary in a SNF during a Medicare-covered stay.
1. Costs and Services Covered by the Federal Rates
    The Federal rates apply to all costs (routine, ancillary, and 
capital-related) of covered SNF services other than costs associated 
with approved educational activities as defined in Sec.  413.85. Under 
section 1888(e)(2) of the Act, covered SNF services include post-
hospital SNF services for which benefits are provided under Part A (the 
hospital insurance program), as well as all items and services (other 
than those services excluded by statute) that, before July 1, 1998, 
were paid under Part B (the supplementary medical insurance program) 
but furnished to Medicare beneficiaries in a SNF during a Part A 
covered stay. (These excluded service categories are discussed in 
greater detail in section V.B.2. of the May 12, 1998 interim final rule 
(63 FR 26295-97)).
2. Methodology Used for the Calculation of the Federal Rates
    The proposed FY 2008 rates would reflect an update using the full 
amount of the latest market basket index. The FY 2008 market basket 
increase factor is 3.3 percent. A complete description of the multi-
step process initially appeared in the May 12, 1998 interim final rule 
(63 FR 26252), as further revised in subsequent rules. We note that in 
accordance with section 101(c)(2) of the BBRA, the previous, temporary 
increases in the per diem adjusted payment rates for certain designated 
RUGs, as specified in section 101(a) of the BBRA and section 314 of the 
BIPA, are no longer in effect due to the implementation of case-mix 
refinements as of January 1, 2006. However, the temporary increase of 
128 percent in the per diem adjusted payment rates for SNF residents 
with AIDS, enacted by section 511 of the MMA, remains in effect.
    We used the SNF market basket to adjust each per diem component of 
the Federal rates forward to reflect cost increases occurring between 
the midpoint of the Federal fiscal year beginning October 1, 2006, and 
ending September 30, 2007, and the midpoint of the Federal fiscal year 
beginning October 1, 2007, and ending September 30, 2008, to which the 
payment rates apply. In accordance with section 1888(e)(4)(E)(ii)(IV) 
of the Act, we update the payment rates for FY 2008 by a factor equal 
to the full market basket index percentage increase. We further adjust 
the rates by a wage index budget neutrality factor, described later in 
this section. Tables 2 and 3 reflect the updated components of the 
unadjusted Federal rates for FY 2008.

                            Table 2.--FY 2008 Unadjusted Federal Rate Per Diem Urban
----------------------------------------------------------------------------------------------------------------
                                               Nursing--case-   Therapy--case-   Therapy--non-
               Rate component                       mix              mix            case-mix       Non-case-mix
----------------------------------------------------------------------------------------------------------------
Per Diem Amount.............................         $146.77          $110.55           $14.56           $74.90
----------------------------------------------------------------------------------------------------------------


                            Table 3.--FY 2008 Unadjusted Federal Rate Per Diem Rural
----------------------------------------------------------------------------------------------------------------
                                               Nursing--case-   Therapy--case-   Therapy--non-
               Rate component                       mix              mix            case-mix       Non-case-mix
----------------------------------------------------------------------------------------------------------------
Per Diem Amount.............................         $140.22          $127.48           $15.55           $76.29
----------------------------------------------------------------------------------------------------------------

B. Case-Mix Refinements

    Under the BBA, each update of the SNF PPS payment rates must 
include the case-mix classification methodology applicable for the 
coming Federal fiscal year. As indicated in section I.F.1. of this 
proposed rule, the payment rates set forth herein reflect the use of 
the refined RUG-53 that we discussed in detail in the proposed and 
final rules for FY 2006 (70 FR 29070, May 19, 2005, and 70 FR 45026, 
August 4, 2005). As noted in the FY 2006 final rule, we deferred RUG-53 
implementation from the beginning of FY 2006 (October 1, 2005) until 
January 1, 2006, in order to allow sufficient time to prepare for and 
ease the transition to the refinements (70 FR 45034).
    We list the case-mix adjusted payment rates separately for urban 
and rural SNFs in Tables 4 and 5, with the corresponding case-mix 
values. These tables do not reflect the AIDS add-on enacted by section 
511 of the MMA, which we apply only after making all other adjustments 
(wage and case-mix).
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[[Page 25535]]



C. Wage Index Adjustment to Federal Rates

    Section 1888(e)(4)(G)(ii) of the Act requires that we adjust the 
Federal rates to account for differences in area wage levels, using a 
wage index that we find appropriate. Since the inception of a PPS for 
SNFs, we have used hospital wage data in developing a wage index to be 
applied to SNFs. We propose to continue that practice for FY 2008, as 
we continue to believe that in the absence of SNF-specific wage data, 
using the hospital inpatient wage data is appropriate and reasonable 
for the SNF PPS. As explained in the update notice for FY 2005 (69 FR 
45786, July 30, 2004), the SNF PPS does not use the hospital area wage 
index's occupational mix adjustment, as this adjustment serves 
specifically to define the occupational categories more clearly in a 
hospital setting; moreover, the collection of the occupational wage 
data also excludes any wage data related to SNFs. Therefore, we believe 
that using the updated wage data exclusive of the occupational mix 
adjustment continues to be appropriate for SNF payments.
    We would apply the wage index adjustment to the labor-related 
portion of the Federal rate, which is 73.757 percent of the total rate. 
This percentage reflects the labor-related relative importance for FY 
2008, using the proposed revised and rebased FY 2004-based market 
basket. The labor-related relative importance for FY 2007 was 75.839, 
using the FY 1997-based market basket, as shown in Table 11. We 
calculate the labor-related relative importance from the SNF market 
basket, and it approximates the labor-related portion of the total 
costs after taking into account historical and projected price changes 
between the base year and FY 2008. The price proxies that move the 
different cost categories in the market basket do not necessarily 
change at the same rate, and the relative importance captures these 
changes. Accordingly, the relative importance figure more closely 
reflects the cost share weights for FY 2008 than the base year weights 
from the SNF market basket.
    We calculate the labor-related relative importance for FY 2008 in 
four steps. First, we compute the FY 2008 price index level for the 
total market basket and each cost category of the market basket. 
Second, we calculate a ratio for each cost category by dividing the FY 
2008 price index level for that cost category by the total market 
basket price index level. Third, we determine the FY 2008 relative 
importance for each cost category by multiplying this ratio by the base 
year (FY 1997) weight. Finally, we add the FY 2008 relative importance 
for each of the labor-related cost categories (wages and salaries, 
employee benefits, nonmedical professional fees, labor-intensive 
services, and a portion of capital-related expenses) to produce the FY 
2008 labor-related relative importance. Tables 6 and 7 below show the 
Federal rates by labor-related and non-labor-related components.

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BILLING CODE 4210-01-C
    Section 1888(e)(4)(G)(ii) of the Act also requires that we apply 
this wage index in a manner that does not result in aggregate payments 
that are greater or less than would otherwise be made in the absence of 
the wage adjustment. For FY 2008 (Federal rates effective October 1, 
2007), we would apply the most recent wage index using the hospital 
inpatient wage data, and would also apply an adjustment to fulfill the 
budget neutrality requirement. We would meet this requirement by 
multiplying each of the components of the unadjusted Federal rates by a 
factor equal to the ratio of the volume weighted mean wage adjustment 
factor (using the wage index from the previous year) to the volume 
weighted mean wage adjustment factor, using the wage index for the FY 
beginning October 1, 2006. We use the same volume weights in both the 
numerator and denominator, and derive them from the 1997 Medicare 
Provider Analysis and Review File (MEDPAR) data. We define the wage 
adjustment factor used in this calculation as the labor share of the 
rate component multiplied by the wage index plus the non-labor share. 
The proposed budget neutrality factor for this year is 1.0003. The wage 
index applicable to FY 2008 appears in Tables 8 and 9 of this proposed 
rule.
    In the SNF PPS final rule for FY 2006 (70 FR 45026, August 4, 
2005), we adopted the changes discussed in the Office of Management and 
Budget (OMB) Bulletin No. 03-04 (June 6, 2003), available online at 
www.whitehouse.gov/omb/bulletins/b03-04.html, which announced revised 
definitions for Metropolitan Statistical Areas (MSAs), and the creation 
of Micropolitan Statistical Areas and Combined Statistical Areas. In 
addition, OMB published subsequent bulletins regarding CBSA changes, 
including changes in CBSA numbers and titles. We wish to clarify that 
this and all subsequent SNF PPS rules and notices are considered to 
incorporate the CBSA

[[Page 25539]]

changes published in the most recent OMB bulletin that applies to the 
hospital wage data used to determine the current SNF PPS wage index. 
The OMB bulletins may be accessed online at http://www.whitehouse.gov/omb/bulletins/index.html.
    In adopting the OMB Core-Based Statistical Area (CBSA) geographic 
designations, we provided for a 1-year transition with a blended wage 
index for all providers. For FY 2006, the wage index for each provider 
consisted of a blend of 50 percent of the FY 2006 MSA-based wage index 
and 50 percent of the FY 2006 CBSA-based wage index (both using FY 2002 
hospital data). We referred to the blended wage index as the FY 2006 
SNF PPS transition wage index. As discussed in the SNF PPS final rule 
for FY 2006 (70 FR 45041), subsequent to the expiration of this 1-year 
transition on September 30, 2006, we used the full CBSA-based wage 
index values, as now presented in Tables 8 and 9 of this proposed rule.
    When adopting OMB's new labor market designations, we identified 
some geographic areas where there were no hospitals and, thus, no 
hospital wage index data on which to base the calculation of the SNF 
PPS wage index (70 FR 29095, May 19, 2005). As in the SNF PPS final 
rule for FY 2006 (70 FR 45041) and in the SNF PPS update notice for FY 
2007 (71 FR 43170, July 31, 2006), we now address two situations 
concerning the wage index.
    The first situation involves rural locations in Massachusetts and 
Puerto Rico. Under the CBSA labor market areas, there are no rural 
hospitals in those locations. Because there was no rural proxy for more 
recent rural data within those areas, we used the FY 2005 wage index 
value in both FY 2006 and FY 2007 for rural Massachusetts and rural 
Puerto Rico.
    Because we have used the same wage index value (from FY 2005) for 
these areas for the previous two fiscal years, we believe it is 
appropriate at this point to consider alternatives in our methodology 
to update the wage index for rural areas without hospital wage index 
data. We believe that the best imputed proxy would (1) use pre-floor, 
pre-reclassified hospital data, (2) use the most local data available, 
(3) be easy to evaluate, and (4) be easily updateable from year-to-
year. Although our current methodology uses local, rural pre-floor, 
pre-reclassified hospital wage data, this method is not updateable from 
year-to-year.
    Therefore, in cases where there is a rural area without hospital 
wage data, we propose using the average wage index from all contiguous 
CBSAs to represent a reasonable proxy for the rural area. This approach 
uses pre-floor, pre-reclassified hospital wage data, is easy to 
evaluate, is updateable from year-to-year, and uses the most local data 
available.
    In determining an imputed rural wage index, we interpret the term 
``contiguous'' to mean sharing a border. For example, in the case of 
Massachusetts, the entire rural area consists of Dukes and Nantucket 
counties. We have determined that the borders of Dukes and Nantucket 
counties are ``contiguous'' with Barnstable and Bristol counties. Under 
the proposed methodology, the wage indexes for the counties of 
Barnstable (CBSA 12700, Barnstable Town, MA-(1.2539)) and Bristol (CBSA 
39300, Providence-New Bedford-Fall River, RI-MA-(1.0783)) are averaged, 
resulting in an imputed rural wage index of 1.1665 for rural 
Massachusetts for FY 2008. While we believe that this policy could be 
readily applied to other rural areas that lack hospital wage data 
(possibly due to hospitals converting to a different provider type, 
such as a CAH, that does not submit the appropriate wage data), should 
a similar situation arise in the future, we may re-examine this policy. 
However, we do not believe that this policy is appropriate for Puerto 
Rico. There are sufficient economic differences between hospitals in 
the United States and those in Puerto Rico (including the payment of 
hospitals in Puerto Rico using blended Federal/Commonwealth-specific 
rates) to warrant establishing a separate and distinct policy 
specifically for Puerto Rico. Consequently, any alternative methodology 
for imputing a wage index for rural Puerto Rico would need to take into 
account those differences. Our policy of imputing a rural wage index 
based on the wage index(es) of CBSAs contiguous to the rural area in 
question does not recognize the unique circumstances of Puerto Rico. 
While we have not yet identified an alternative methodology for 
imputing a wage index for rural Puerto Rico, we will continue to 
evaluate the feasibility of using existing hospital wage data and, 
possibly, wage data from other sources. Accordingly, we propose to 
continue using the most recent wage index previously available for 
rural Puerto Rico; that is, a wage index of 0.4047.
    The second situation involved the urban CBSA (25980) Hinesville-
Fort Stewart, GA. Again, under CBSA designations there are no urban 
hospitals within that CBSA. For FY 2006 and FY 2007, we used all of the 
urban areas within the State to serve as a reasonable proxy for the 
urban area without specific hospital wage index data in determining the 
SNF PPS wage index.
    We propose to continue this approach for urban areas without 
specific hospital wage index data. Therefore, the wage index for urban 
CBSA (25980) Hinesville-Fort Stewart, GA is calculated as the average 
wage index of all urban areas in Georgia.
    We solicit comments on these approaches to calculating the wage 
index values for areas without hospitals for FY 2008 and subsequent 
years.

D. Updates to the Federal Rates

    In accordance with section 1888(e)(4)(E) of the Act as amended by 
section 311 of the BIPA, the proposed payment rates in this proposed 
rule reflect an update equal to the full SNF market basket, estimated 
at 3.3 percentage points. We will continue to disseminate the rates, 
wage index, and case-mix classification methodology through the Federal 
Register before the August 1 that precedes the start of each succeeding 
fiscal year.

E. Relationship of RUG-III Classification System to Existing Skilled 
Nursing Facility Level-of-Care Criteria

    As discussed in Sec.  413.345, we include in each update of the 
Federal payment rates in the Federal Register the designation of those 
specific RUGs under the classification system that represent the 
required SNF level of care, as provided in Sec.  409.30. This 
designation reflects an administrative presumption under the refined 
RUG-53 that beneficiaries who are correctly assigned to one of the 
upper 35 of the RUG-53 groups on the initial 5-day, Medicare-required 
assessment are automatically classified as meeting the SNF level of 
care definition up to and including the assessment reference date on 
the 5-day Medicare required assessment.
    A beneficiary assigned to any of the lower 18 groups is not 
automatically classified as either meeting or not meeting the 
definition, but instead receives an individual level of care 
determination using the existing administrative criteria. This 
presumption recognizes the strong likelihood that beneficiaries 
assigned to one of the upper 35 groups during the immediate post-
hospital period require a covered level of care, which would be 
significantly less likely for those beneficiaries assigned to one of 
the lower 18 groups.
    In this proposed rule, we are continuing the designation of the 
upper 35 groups for purposes of this administrative presumption, 
consisting

[[Page 25540]]

of the following RUG-53 classifications: All groups within the 
Rehabilitation plus Extensive Services category; all groups within the 
Ultra High Rehabilitation category; all groups within the Very High 
Rehabilitation category; all groups within the High Rehabilitation 
category; all groups within the Medium Rehabilitation category; all 
groups within the Low Rehabilitation category; all groups within the 
Extensive Services category; all groups within the Special Care 
category; and, all groups within the Clinically Complex category.

F. Example of Computation of Adjusted PPS Rates and SNF Payment

    Using the SNF XYZ described in Table 10 below, the following shows 
the adjustments made to the Federal per diem rate to compute the 
provider's actual per diem PPS payment. SNF XYZ's total PPS payment 
would equal $29,656. The Labor and Non-labor columns are derived from 
Table 6 of this proposed rule.

                              Table 10.--RUG-53 SNF XYZ: Located in Cedar Rapids, IA (Urban CBSA 16300) Wage Index: 0.8853
--------------------------------------------------------------------------------------------------------------------------------------------------------
                                                                                                                                  Medicare
                    RUG group                        Labor      Wage index   Adj. labor   Non-labor    Adj. rate   Percent adj      days       Payment
--------------------------------------------------------------------------------------------------------------------------------------------------------
RVX.............................................      $336.93       0.8853      $298.28      $119.88      $418.16      $418.16           14    $5,854.00
RLX.............................................       232.12       0.8853       205.50        82.59       288.09       288.09           30     8,643.00
RHA.............................................       233.65       0.8853       206.85        83.13       289.98       289.98           16     4,640.00
CC2.............................................       198.05       0.8853       175.33        70.47       245.80      *560.43           10     5,604.00
IA2.............................................       132.02       0.8853       116.88        46.97       163.85       163.85           30     4,915.00
--------------------------------------------------------------------------------------------------------------------------------------------------------
                                                  ...........  ...........  ...........  ...........  ...........  ...........          100   29,656.00
--------------------------------------------------------------------------------------------------------------------------------------------------------
* Reflects a 128 percent adjustment from section 511 of the MMA.

III. The Skilled Nursing Facility Market Basket Index

    [If you choose to comment on issues in this section, please include 
the caption ``Market Basket Index'' at the beginning of your comments.]
    Section 1888(e)(5)(A) of the Act requires us to establish a SNF 
market basket index (input price index) that reflects changes over time 
in the prices of an appropriate mix of goods and services included in 
the SNF PPS. This proposed rule incorporates the latest available 
projections of the SNF market basket index. We will incorporate into 
the SNF final rule updated projections based on the latest available 
projections at that time. Accordingly, we have developed a SNF market 
basket index that encompasses the most commonly used cost categories 
for SNF routine services, ancillary services, and capital-related 
expenses. A discussion of our proposal to revise and rebase the SNF 
market basket appears in section IV. of this proposed rule.
    Each year, we calculate a revised labor-related share based on the 
relative importance of labor-related cost categories in the input price 
index. Table 11 below summarizes the proposed updated labor-related 
share for FY 2008, which is based on the proposed rebased and revised 
SNF market basket.

    Table 11.--Labor-Related Relative Importance, FY 2007 and FY 2008
------------------------------------------------------------------------
                                         Relative           Relative
                                       importance,        importance,
                                      labor-related,     labor-related,
                                     FY 2007  (1997-    FY 2008  (2004-
                                    based index)  0:2     based index)
                                         forecast        07:41 forecast
------------------------------------------------------------------------
Wages and salaries................             54.231             53.628
Employee benefits.................             11.903             12.299
Nonmedical professional fees......              2.721              1.442
Labor-intensive services..........              4.035              3.746
Capital-related (.391)............              2.949              2.642
    Total.........................             75.839            73.757
------------------------------------------------------------------------
Source: Global Insight, Inc., formerly DRI-WEFA.

A. Use of the Skilled Nursing Facility Market Basket Percentage

    Section 1888(e)(5)(B) of the Act defines the SNF market basket 
percentage as the percentage change in the SNF market basket index, as 
described in the previous section, from the average of the prior fiscal 
year to the average of the current fiscal year. For the Federal rates 
established in this proposed rule, we use the percentage increase in 
the SNF market basket index to compute the update factor for FY 2008. 
We use the Global Insight, Inc. (formerly DRI-WEFA), 1st quarter 2007 
forecasted percentage increase in the FY 2004-based SNF market basket 
index for routine, ancillary, and capital-related expenses, described 
in the previous section, to compute the update factor in this proposed 
rule. Finally, as discussed in section I.A. of this proposed rule, we 
no longer compute update factors to adjust a facility-specific portion 
of the SNF PPS rates, because the initial three-phase transition period 
from facility-specific to full Federal rates that started with cost 
reporting periods beginning in July 1998 has expired.

B. Market Basket Forecast Error Adjustment

    As discussed in the June 10, 2003, supplemental proposed rule (68 
FR 34768) and finalized in the August 4, 2003, final rule (68 FR 
46067), the regulations at 42 CFR 413.337(d)(2) currently provide for 
an adjustment to account for market basket forecast error.

[[Page 25541]]

The initial adjustment applied to the update of the FY 2003 rate for FY 
2004, and took into account the cumulative forecast error for the 
period from FY 2000 through FY 2002. Subsequent adjustments in 
succeeding FYs take into account the forecast error from the most 
recently available fiscal year for which there is final data, and apply 
whenever the difference between the forecasted and actual change in the 
market basket exceeds a 0.25 percentage point threshold. As also 
discussed previously in section I.F.2. of this proposed rule, we are 
proposing to raise the 0.25 percentage point threshold for forecast 
error adjustments under the SNF PPS to 0.5 percentage point effective 
with FY 2008, and we invite comments on increasing the forecast error 
adjustment threshold and its effective date, as well as other aspects 
of this proposed rule. As also discussed in that section, the payment 
rates for FY 2008 do not include a forecast error adjustment, as the 
difference between the estimated and actual amounts of increase in the 
market basket index for FY 2006 (the most recently available fiscal 
year for which there is final data) does not exceed the proposed 0.5 
percentage point threshold.

C. Federal Rate Update Factor

    Section 1888(e)(4)(E)(ii)(IV) of the Act requires that the update 
factor used to establish the FY 2008 Federal rates be at a level equal 
to the full market basket percentage change. Accordingly, to establish 
the update factor, we determined the total growth from the average 
market basket level for the period of October 1, 2006 through September 
30, 2007 to the average market basket level for the period of October 
1, 2007 through September 30, 2008. Using this process, the proposed 
market basket update factor for FY 2008 SNF Federal rates is 3.3 
percent. We used this revised proposed update factor to compute the 
Federal portion of the SNF PPS rate shown in Tables 2 and 3.

IV. Revising and Rebasing the Skilled Nursing Facility Market Basket 
Index

    [If you choose to comment on issues in this section, please include 
the caption ``Revising and Rebasing'' at the beginning of your 
comments.]

A. Background

    Section 1888(e)(5)(A) of the Social Security Act requires the 
Secretary to establish a market basket index that reflects the changes 
over time in the prices of an appropriate mix of goods and services 
included in the SNF PPS. Effective for cost reporting periods beginning 
on or after July 1, 1998, we revised and rebased our 1977 routine costs 
input price index and adopted a total expenses SNF input price index 
using FY 1992 as the base year. In 2001 we rebased and revised the 
market basket to a base year of FY 1997. This year, in 2007, we propose 
to revise and rebase the SNF market basket to a base year of FY 2004.
    The term ``market basket'' technically describes the mix of goods 
and services needed to produce SNF care, and is also commonly used to 
denote the input price index that includes both weights (mix of goods 
and services) and price factors. The term ``market basket'' used in 
this proposed rule refers to the SNF input price index.
    The proposed FY 2004-based SNF market basket represents routine 
costs, costs of ancillary services, and capital-related costs. The 
percentage change in the market basket reflects the average change in 
the price of a fixed set of goods and services purchased by SNFs in 
order to furnish all services. For further background information, see 
the May 12, 1998 interim final rule (63 FR 26289) and the July 31, 2001 
final rule (66 FR 39582).
    For purposes of the SNF PPS, the SNF market basket is a fixed-
weight (Laspeyres-type) price index. A Laspeyres-type index compares 
the cost of purchasing a specified mix of goods and services in a 
selected base period to the cost of purchasing that same group of goods 
and services at current prices.
    We construct the market basket in three steps. The first step is to 
select a base period and estimate total base period expenditure shares 
for mutually exclusive and exhaustive spending categories. We use total 
costs for routine services, ancillary services, and capital. These 
shares are called ``cost'' or ``expenditure'' weights. The second step 
is to match each expenditure category to a price/wage variable, called 
a price proxy. We draw these price proxy variables from publicly 
available statistical series published on a consistent schedule, 
preferably at least quarterly. The final step involves multiplying the 
price level for each spending category by the cost weight for that 
category. The sum of these products (that is, weights multiplied by 
proxy index levels) for all cost categories yields the composite index 
level of the market basket for a given quarter or year. Repeating the 
third step for other quarters and years produces a time series of 
market basket index levels, from which we can calculate rates of 
growth.
    The market basket represents a fixed-weight index because it 
answers the question of how much more or less it would cost, at a later 
time, to purchase the same mix of goods and services that was purchased 
in the base period. The effects on total expenditures resulting from 
changes in the quantity or mix of goods and services purchased 
subsequent or prior to the base period are, by design, not considered.
    As discussed in the May 12, 1998 interim final rule (63 FR 26252) 
and in the July 31, 2001 final rule (66 FR 39582), to implement section 
1888(e)(5)(A) of the Act we propose to revise and rebase the market 
basket so the cost weights and price proxies reflect the mix of goods 
and services that SNFs purchased for all costs (routine, ancillary, and 
capital-related) included in the SNF PPS for FY 2004.

B. Rebasing and Revising the Skilled Nursing Facility Market Basket

    The terms ``rebasing'' and ``revising'', while often used 
interchangeably, actually denote different activities. Rebasing means 
shifting the base year for the structure of costs of the input price 
index (for example, for this proposed rule, we propose to shift the 
base year cost structure from fiscal year 1997 to fiscal year 2004). 
Revising means changing data sources, cost categories, price proxies, 
and/or methodology used in developing the input price index.
    We are proposing both to rebase and revise the SNF market basket to 
reflect 2004 Medicare allowable total cost data (routine, ancillary, 
and capital-related). Medicare allowable costs are costs that could be 
reimbursed under the SNF PPS. For example, the SNF market basket 
excludes home health aide costs as these costs would be reimbursed 
under the HHA PPS and, therefore, these costs are not SNF Medicare 
allowable costs.
    The 1997-based SNF market basket is based on total facility costs, 
which includes costs not reimbursed under the SNF PPS (such as nursing 
facility, long-term care, HHA, and intermediate care facility costs). 
Due to insufficient data, we were unable to separate Medicare allowable 
costs from total facility costs during the 1997-based SNF market basket 
rebasing and other previous rebasings. For this current rebasing 
analysis, we compared a 2004-based SNF market basket based on Medicare 
allowable costs to one based on total facility cost methodologies and 
found the cost weights to be similar. We believe that using only 
Medicare allowable costs better reflects the cost structure of SNFs 
serving Medicare beneficiaries, and permits us to apply the same 
methodology used to calculate the Inpatient Prospective Payment

[[Page 25542]]

System (IPPS), Rehabilitation, Psychiatric, and Long-term Care (RPL), 
and Home Health Agency (HHA) market baskets.
    We selected FY 2004 as the new base year because 2004 is the most 
recent year for which relatively complete Medicare cost report data are 
available. In developing the proposed market basket, we reviewed SNF 
expenditure data from Medicare cost reports for FY 2004 for each 
freestanding SNF that reported Medicare expenses and payments. The FY 
2004 cost reports are those with cost reporting periods beginning after 
September 30, 2003 and before October 1, 2004. We maintained our policy 
of using data from freestanding SNFs because freestanding SNF data 
reflect the actual cost structure faced by the SNF itself. In contrast, 
expense data for a hospital-based SNF reflect the allocation of 
overhead over the entire institution. Due to this method of allocation, 
total expenses will be correct, but the individual components' expenses 
may be skewed. If data from hospital-based SNFs were included, the 
resultant cost structure might be unrepresentative of the costs that a 
typical SNF experiences. We show in table 16 a comparison of the 
proposed 2004-based Medicare allowable and total facility SNF market 
baskets.
    We developed cost category weights for the proposed 2004-based 
market basket in two stages. First, we derived base weights for seven 
major categories (wages and salaries, employee benefits, contract 
labor, pharmaceuticals, professional liability insurance, capital-
related, and a residual ``all other'') using edited SNF Medicare cost 
reports. We edited the Medicare costs reports to remove reports where 
the data were deemed unreliable (for example, when total costs were not 
greater than zero). We divided the residual ``all other'' cost category 
into subcategories, using U.S. Department of Commerce Bureau of 
Economic Analysis' 1997 Benchmark Input-Output (I-O) tables for the 
nursing home industry aged forward using price changes. (The 
methodology we used to age the data involves applying the annual 
changes from the price proxies to the appropriate cost categories. We 
repeat this practice for each year.) The 1997-based SNF market basket 
used the U.S. Department of Commerce Bureau of Economic Analysis' 1997 
Annual Input-Output tables and the 1997 Business Expenditures Survey. 
The 1997 Annual I-O is an update of the 1992 Benchmark I-O data, while 
the 1997 Benchmark I-O is based on a completely new set of data and, 
thus, is a more comprehensive and up-to-date data source for nursing 
home expenditure data.
    The capital-related portion of the proposed rebased and revised SNF 
PPS market basket employs the same overall methodology used to develop 
the capital-related portion of the 1992-based SNF market basket, 
described in the May 12, 1998 interim final rule (63 FR 26289) and the 
1997-based SNF market basket, described in the July 31, 2001 final rule 
(66 FR 39582). It is also the same methodology used for the inpatient 
hospital capital input price index described in the May 31, 1996 
proposed rule (61 FR 27466), the August 30, 1996 final rule (61 FR 
46196), and the August 12, 2005 final rule (70 FR 47407). The strength 
of this methodology is that it reflects the vintage nature of capital, 
which represents the acquisition and use of capital over time. We 
explain this methodology in more detail below.
    Our proposed rebasing and revising of the market basket index 
resulted in 23 cost weights, a change from the current market basket. 
We are adding cost categories for postage and professional liability 
insurance (PLI), and have changed price proxies in several of the 
categories. We describe below the sources of the main category weights 
and their subcategories in the proposed 2004-based SNF market basket. 
The proposed market basket contains 23 detailed cost weights, two more 
cost weights than the 1997-based index.
    Wages and Salaries: We derived the wages and salaries cost category 
using the 2004 SNF Medicare Cost Reports. We determined the share using 
Medicare allowable wages and salaries from Worksheet S-3, part II and 
total expenses from Worksheet B, part I. Medicare allowable wages and 
salaries are equal to total wages and salaries minus excluded salaries 
from Worksheet S-3, part II, as well as nursing facility and non-
reimbursable salaries from Worksheet A, lines 18, 34 through 36, and 58 
through 63. Medicare allowable total expenses are equal to total 
expenses from Worksheet B, lines 16, 21 through 30, 32, 33, 48, and 52 
through 54. This share represents the wage and salary share of costs 
for employees for the SNF, and does not include the wages and salaries 
from contract labor, which are allocated to wages and salaries in a 
later step.
    Employee Benefits: We determined the weight for employee benefits 
using 2004 SNF Medicare Cost Reports. We derived the share using 
Medicare allowable wage-related costs from Worksheet S-3, part II and 
total expenses from Worksheet B. Medicare allowable benefits are equal 
to total benefits from Worksheet S-3, part II, minus excluded (non-
Medicare allowable) benefits. Non-Medicare allowable benefits are equal 
to the non-Medicare allowable salaries times the ratio of total benefit 
costs for the SNF to the total wage costs for the SNF.
    Contract Labor: We determined the weight for contract labor using 
2004 SNF Medicare Cost Reports. We derived the share using Medicare 
allowable wage-related costs from Worksheet S-3, part II line 17 minus 
Nursing Facility (NF) contract labor costs and Medicare allowable total 
costs from Worksheet B, part I. (Worksheet S-3, part II line 17 only 
includes direct patient care contract labor attributable to SNF and NF 
services.) NF contract labor costs (which are not reimbursable under 
Medicare) are equal to total contract labor costs multiplied by the 
ratio of NF wages and salaries to the sum of NF and SNF wages and 
salaries.
    We then distributed contract labor costs between the wages and 
salaries and employee benefits cost categories, under the assumption 
that contract costs should move at the same rate as direct labor costs 
even though unit labor cost levels may be different.
    Pharmaceuticals: We derived the cost weight for pharmaceuticals 
from the 2004 SNF Medicare Cost Reports. We calculated this share using 
non-salary costs from the Pharmacy cost center and the Drugs Charged to 
Patients' cost center, both found on Worksheet B. Since these drug 
costs were attributable to the entire SNF and not limited to Medicare 
allowable services, we adjusted the drug costs by the ratio of Medicare 
allowable pharmacy total costs to total pharmacy costs from Worksheet 
B, part I, column 11. Worksheet B, part I allocates the general service 
cost centers, which are often referred to as ``overhead costs'' (in 
which pharmacy costs are included), to the Medicare allowable and non-
Medicare allowable cost centers. This resulted in a drug cost weight 
(3.2 percent) that was slightly higher than the drug cost weight would 
have been (2.7 percent) if no adjustment for Medicare allowable 
services had been made. We are proposing to use this methodology to 
derive the pharmaceutical cost weight.
    In addition to the Medicare allowable methodology, we also explored 
alternative methods for calculating the SNF market basket drug cost 
weight. Specifically, we researched the viability of calculating a 
Medicare-specific drug cost weight based on Medicare drug costs as a 
percent of Medicare total costs. Because these expenses are not 
reported directly, we were required to

[[Page 25543]]

estimate them using cost-to-charge ratios. Medicare drug costs can be 
calculated as the product of non-salary, non-overhead costs from the 
Drugs Charged to Patients cost center (including allocated costs from 
the Pharmacy cost center) from Worksheet B, part I and the cost-to-
charge ratio from Worksheet D, part 1. We excluded salary and facility 
overhead costs from this weight, as these costs would be included in 
the other cost weights. Medicare total costs can be calculated as the 
sum of Medicare inpatient costs and Medicare ancillary costs, including 
Medicare drug costs.
    This methodology produced a cost weight that was nearly three times 
higher than the Medicare allowable drug cost weight. This considerably 
higher drug cost weight is primarily driven by the cost-to-charge ratio 
for the Drugs Charged to Patients cost center, which is 0.8 on average 
based on the 2004 SNF Medicare cost reports. This ratio has been 
relatively consistent over the last five years. The Drugs Charged to 
Patient cost center is one of the ancillary cost centers on the 
Medicare cost report. The average cost-to-charge ratio for all 
ancillary cost centers is 0.65.
    Furthermore, the Medicare Drugs Charged to Patients cost-to-charge 
ratios for freestanding SNFs differ greatly from those of hospital-
based SNFs. Hospital-based SNFs report an average cost-to-charge ratio 
for the Drugs Charged to Patients cost center of 0.22. For sensitivity 
analysis we used the hospital-based ratio of 0.22 to estimate a 
freestanding SNF Medicare drug cost weight. The resulting weight was 
3.3 percent, which is close to the 3.2 percent weight that was 
determined using the Medicare allowable methodology. Contrary to 
freestanding SNFs, the cost-to-charge ratio for the Drugs Charged to 
Patients cost center for hospital-based SNFs is below the average cost-
to-charge ratio for all ancillary cost centers, which is 0.29.
    The large inconsistencies between freestanding and hospital-based 
SNFs, including the substantial difference in the drug cost-to-charge 
ratios, as well as the dissimilarity in the relationships of those 
ratios to the cost-to-charge ratios from all ancillary cost centers by 
SNF type, led us to believe this methodology was inappropriate to use 
in developing the proposed drug cost weight in the proposed 2004-based 
SNF market basket. In addition, as part of our sensitivity analysis, we 
estimated the impact that this alternative methodology would have on 
our proposed FY 2008 update, and found that it was minimal. However, we 
are soliciting comments on this methodology. We also welcome any input, 
data, or documentation from the public that would help to clarify the 
discrepancies between freestanding and hospital-based facilities' 
Medicare drug cost weights. Based on further internal analyses and any 
external data or documentation that we receive from the industry, we 
may still consider adoption of this Medicare drug cost weight 
methodology to derive the SNF market basket drug cost weight.
    Table 12 below shows the similarity between the SNF market basket 
percent changes using the drug cost weight calculated with the Medicare 
allowable methodology for drugs and the market basket percent changes 
using the alternative drug methodology described above.
[GRAPHIC] [TIFF OMITTED] TP04MY07.049

    Malpractice: Unlike the 1997-based SNF market basket, the proposed 
2004-based SNF market basket includes a separate cost category for 
professional liability insurance (PLI). The 2004 SNF Medicare cost 
reports include PLI as an entry, while in 1997 very few SNFs reported 
data for malpractice premiums, paid losses, or self-insurance on 
Worksheet S-2. In addition, the 1997 Benchmark Input-Output table 
indicated that the general category for insurance carriers (which 
includes PLI as a subset) was a very small share of total SNF costs in 
1997. In the past, it

[[Page 25544]]

has been our policy not to provide detailed breakouts of cost 
categories unless they represent a significant portion of providers' 
costs. Recent indications are that PLI costs for SNFs are rising.
    We calculated the share using malpractice costs from Worksheet S-2 
of the Medicare Cost reports to develop a SNF total facility cost 
weight. Since these malpractice costs are attributable to the entire 
SNF and not just Medicare allowable services, we adjusted the 
malpractice costs by the ratio of Medicare allowable beds to total 
facility beds. We believe this is an appropriate adjustment as 
malpractice costs are often based on the number of facility beds. The 
proposed malpractice cost weight is slightly higher than the 2004-based 
SNF total facility market basket malpractice cost weight.
    In addition to the proposed adjustment, we also considered 
adjusting the total facility malpractice costs by the ratio of SNF 
inpatient days to total facility days and by the ratio of Medicare 
allowable costs to total facility costs. We note that these latter 
adjustment methodologies produced malpractice cost weights that were 
less than one-tenth of a percentage point different than the Medicare 
allowable cost weight determined using our proposed adjustment of 
Medicare allowable beds to total beds. Again, we believe using Medicare 
allowable beds to total beds is an appropriate adjustment to total 
facility malpractice costs as malpractice costs are often based on the 
number of facility beds. Due to a lack of data, the malpractice cost 
weight was not broken out separately in the 1997-based SNF market 
basket.
    Capital-Related: We derived the weight for overall capital-related 
expenses using the 2004 SNF Medicare cost reports. We calculated the 
Medicare allowable capital-related cost weight from Worksheet B, part 
II. In determining the subcategory weights for capital, we used 
information from the 2004 SNF Medicare Cost Reports and the 2002 Bureau 
of Census' Business Expenditure Survey (BES). We calculated the 
depreciation cost weight using depreciation costs from Worksheet S-2. 
Unlike the cost weights described above, we did not calculate the 
depreciation cost weight using Medicare allowable total costs. Rather, 
we used total facility costs under the assumption that the depreciation 
of an asset is not dependent upon whether the asset was used for 
Medicare or non-Medicare patients.
    We determined the distribution between building and fixed equipment 
and movable equipment from the 2004 SNF Medicare Cost Reports. From 
these calculations, we estimated the depreciation expenses (that is, 
depreciation expenses excluding leasing costs) to be 32 percent of 
total capital-related expenditures in 2004.
    We also derived the interest expense share of capital-related 
expenses from Worksheet A for the same edited 2004 SNF Medicare cost 
reports. Similar to the depreciation cost weight, we calculated the 
interest cost weight using total facility costs. For the current market 
basket, we determined the split of interest expense between for-profit 
and not-for-profit facilities based on the distribution of long-term 
debt outstanding by type of SNF (for-profit or not-for-profit) from the 
2004 SNF Medicare cost reports. We estimated the interest expense (that 
is, interest expenses excluding leasing costs) to be 34 percent of 
total capital-related expenditures in 2004.
    Because the data were not available in the Medicare cost reports, 
we used the most recent 2002 BES data to derive the capital-related 
expenses attributable to leasing and other capital-related expenses. We 
determined the leasing costs to be 21 percent of capital-related 
expenses in 2002, while we determined the other capital-related costs 
(insurance, taxes, licenses, other) to be 13 percent of capital-related 
expenses.
    Lease expenses are not broken out as a separate cost category, but 
are distributed among the cost categories of depreciation, interest, 
and other, reflecting the assumption that the underlying cost structure 
of leases is similar to capital costs in general. As was done in 
previous rebasings, we assumed 10 percent of lease expenses are 
overhead and assigned them to the other capital expenses cost category 
as overhead. We distributed the remaining lease expenses to the three 
cost categories based on the proportion of depreciation, interest, and 
other capital expenses to total capital costs, excluding lease 
expenses.
    Table 13 shows the capital-related expense distribution (including 
expenses from leases) in the proposed 2004-based SNF market basket and 
the 1997-based SNF market basket.

Table 13.--Comparison of the Capital-Related Expense Distribution of the
    2004-Based SNF Market Basket and the 1997-Based SNF Market Basket
------------------------------------------------------------------------
                                      Proposed 2004-
           Cost category            based SNF  market    1997-based SNF
                                          basket         market basket
------------------------------------------------------------------------
Capital-related Expenses..........              7.518              8.602
Total Depreciation................              2.981              5.266
Total Interest....................              3.168              3.852
Other Capital-related Expenses....              1.369              0.760
------------------------------------------------------------------------

    Our methodology for determining the price change of capital-related 
expenses accounts for the vintage nature of capital, which is the 
acquisition and use of capital over time. In order to capture this 
vintage nature, the price proxies must be vintage-weighted. The 
determination of these vintage weights occurs in two steps. First, we 
must determine the expected useful life of capital and debt instruments 
in SNFs. Second, we must identify the proportion of expenditures within 
a cost category that is attributable to each individual year over the 
useful life of the relevant capital assets, or the vintage weights. The 
data source that we previously used to develop the useful lives of 
capital is no longer available. We researched alternative data sources 
and found that the Bureau of Economic Analysis (BEA) provided enough 
data for us to derive the useful lives of both fixed and movable 
capital.
    Estimates of useful lives for movable and fixed assets are 9 and 22 
years, respectively. These estimates are based on data from the BEA 
which publishes various useful life-related statistics, including asset 
service lives and average ages. We note, however, that these data in 
their published form are not directly applicable to SNFs. However, we 
can use the BEA data to produce our own useful life estimates for SNFs.

[[Page 25545]]

    BEA service life data are published at a detailed asset level and 
not at an aggregate level, such as movable and fixed assets. There are 
43 detailed movable assets in the BEA estimates. Some examples include 
computer software (34 months service life), electromedical equipment (9 
years), medical instruments and related equipment (12 years), 
communication equipment (15 years), and office equipment (8 years). 
There are 23 detailed fixed assets in the BEA estimates. Some examples 
of detailed fixed assets are medical office buildings (36 years), 
hospitals and special care buildings (48 years), lodging (32 years), 
and so on (Bureau of Economic Analysis, Fixed Assets and Consumer 
Durable Goods in the United States, 1925-97, September 2003; Carol E. 
Moylan and Brooks B. Robinson, ``Preview of the 2003 Comprehensive 
Revision of the National Income and Product Accounts: Statistical 
Changes,'' Survey of Current Business, Volume 83, No. 9 (September 
2003), pp. 17-32).
    However, BEA also publishes average asset age estimates. Data are 
available (1) by detailed and aggregate asset levels and (2) by 
industry, and were last published in 2002. In these estimates, SNFs are 
included in the Standard Industrial Classification (SIC) ``health 
services.'' We recognize, though, that this industry classification 
encompasses far more than SNFs (that is, hospitals and other health-
related facilities, physician and dental services, medical 
laboratories, home health services, kidney dialysis centers, and more). 
In 2003, BEA changed their industry classification system to a North 
American Industrial Classification System (NAICS) basis. SNFs are now 
included in ``nursing and residential care services,'' a more relevant 
industry. Unfortunately, at the time of this analysis, BEA had not 
published average ages based on these new industry classifications.
    Nonetheless, we have approximated average movable and fixed asset 
ages for nursing and residential care services using other published 
BEA numbers such as those noted previously. At the time of our 
analysis, 2001 was the latest year of age estimates data. We took 
average ages for each asset and weighted them using stock levels for 
each of these assets in the nursing and residential care services 
industry. The stocks for each specific asset come from BEA's Detailed 
Fixed Asset Tables (http://www.bea.gov/national/FA2004/Details/xls/detailnonres_stk1.xls). This produced average age data for movable and 
fixed assets of 4.3 and 11.2 years. As average asset ages stay 
relatively constant from one year to the next, we have assumed these 
results would remain the same for 2004. Further, as averages are 
measures of central tendency, we multiplied each of these estimates by 
two to produce estimates of useful lives of 8.6 and 22.4 years for 
movable and fixed assets, which we would round to 9 and 22 years, 
respectively.
    We are proposing to use this methodology to develop the vintage 
weights in the proposed 2004-based SNF market basket. We are proposing 
an interest vintage weight time span of 20 years, obtained by weighting 
the movable and fixed vintage weights (9 years and 22 years, 
respectively) by the moveable and fixed split (14 percent and 86 
percent, respectively). We calculated the split between moveable and 
fixed capital expenses from Worksheet G of the 2004 SNF Medicare cost 
reports.
    Below is a table comparing the market basket percent changes using 
the proposed useful lives of 9 years for movable assets, 22 years for 
fixed assets, and 20 years for interest with the 1997-based useful 
lives of 10 years for movable assets, 23 years for fixed assets, and 23 
years for interest. For both the historical and forecasted periods 
between FY 2002 and FY 2010, the difference between the two market 
baskets is minor.
[GRAPHIC] [TIFF OMITTED] TP04MY07.050


[[Page 25546]]


    In addition to the proposed methodology, we also researched 
alternative data sources, including the Medicare cost reports. An 
asset's useful life can be determined by taking the current year's 
depreciation costs divided by the depreciable assets. This methodology 
is used to derive the useful lives of fixed and movable assets in the 
2002-based Capital Input Price Index. However, unlike the hospital 
Medicare cost reports, the SNF Medicare cost reports do not provide 
depreciation costs for fixed and movable assets separately. We 
attempted to calculate the 2004 depreciation costs for fixed and 
movable equipment separately using the SNF Medicare cost reports. 
Specifically, we subtracted the accumulated depreciation for fixed and 
moveable assets separately for 2003 and 2002, as reported in the 
balance sheet (Worksheet G), using a matched sample of SNFs with 
consecutive cost reporting periods. However, we were unable to use this 
methodology as less than 1,000 SNF providers reported these data, while 
approximately 9,000 SNFs reported salary, benefit, and contract labor 
data. We are hopeful that at our next rebasing of the SNF market 
basket, there will be sufficient balance sheet data to calculate the 
useful lives of fixed and movable equipment.
    Given the expected useful life of capital and debt instruments, we 
must determine the proportion of capital expenditures attributable to 
each year of the expected useful life by cost category. These 
proportions represent the vintage weights. We were not able to find a 
historical time series of capital expenditures by SNFs. Therefore, we 
approximated the capital expenditure patterns of SNFs over time using 
alternative SNF data sources. For building and fixed equipment, we used 
the stock of beds in nursing homes from the CMS National Health 
Accounts for 1962 through 1999. Due to a lack of data for 2000 through 
2003, we extrapolated the 1999 bed data forward to 2004 using a 10-year 
moving average of bed growth. We then used the change in the stock of 
beds each year to approximate building and fixed equipment purchases 
for that year. This procedure assumes that bed growth reflects the 
growth in capital-related costs in SNFs for building and fixed 
equipment. We believe that this assumption is reasonable because the 
number of beds reflects the size of a SNF, and as a SNF adds beds, it 
also adds fixed capital.
    For movable equipment, we used available SNF data to capture the 
changes in intensity of SNF services that would cause SNFs to purchase 
movable equipment. We estimated the change in intensity as the change 
in the ratio of non-therapy ancillary costs to routine costs from 1989 
through 2004 using Medicare cost reports. We estimated this ratio for 
1962 through 1988 using regression analysis. The time series of the 
ratio of non-therapy ancillary costs to routine costs for SNFs measures 
changes in intensity in SNF services, which are assumed to be 
associated with movable equipment purchase patterns. The assumption 
here is that as non-therapy ancillary costs increase compared to 
routine costs, the SNF caseload becomes more complex and would require 
more movable equipment. Again, the lack of movable equipment purchase 
data for SNFs over time required us to use alternative SNF data 
sources. Although we are proposing to use the ratio of non-therapy 
ancillary costs to routine costs as the proxy for changes in the 
intensity of SNF services, we are also reviewing the possibility (and 
feasibility) of using the ratio of total ancillary costs (including 
therapy and non-therapy costs) to routine costs such as a proxy. We 
recognize that therapy utilization in SNFs has increased over the last 
decade and, therefore, the therapy equipment purchases have also likely 
increased, although perhaps at a different rate than those of non-
therapy ancillary equipment. We plan to review this methodology between 
the publication of the proposed and final rules. We welcome any 
comments and/or equipment purchase data that would help enhance this 
review. Depending upon whether the latter methodology is appropriate 
and feasible, we may adopt the use of this ratio of total ancillary 
costs to total routine costs as the proxy for changes in intensity of 
SNF services that would cause SNFs to purchase movable equipment. The 
resulting two time series, determined from beds and the ratio of non-
therapy ancillary to routine costs, would reflect real capital 
purchases of building and fixed equipment and movable equipment over 
time, respectively.
    To obtain nominal purchases, which are used to determine the 
vintage weights for interest, we converted the two real capital 
purchase series from 1963 through 2004 determined above to nominal 
capital purchase series using their respective price proxies (the 
Boeckh Institutional Construction Index and the PPI for Machinery and 
Equipment). We then combined the two nominal series into one nominal 
capital purchase series for 1963 through 2004. Nominal capital 
purchases are needed for interest vintage weights to capture the value 
of debt instruments.
    Once we created these capital purchase time series for 1963 through 
2004, we averaged different periods to obtain an average capital 
purchase pattern over time. For building and fixed equipment we 
averaged twenty-one 22-year periods, for movable equipment we averaged 
thirty-four 9-year periods, and for interest we averaged twenty-four 
20-year periods. We calculate the vintage weight for a given year by 
dividing the capital purchase amount in any given year by the total 
amount of purchases during the expected useful life of the equipment or 
debt instrument. We described this methodology in the May 12, 1998 
interim final rule (63 FR 26252). Table 15 shows the resulting vintage 
weights for each of these cost categories.
BILLING CODE 4210-01-P

[[Page 25547]]

[GRAPHIC] [TIFF OMITTED] TP04MY07.051

    We divided the residual ``all other'' cost category into 
subcategories, using the BEA's Benchmark Input-Output Tables for the 
nursing home industry aged to 2004 using relative price changes. (The 
methodology we used to age the data involves applying the annual price 
changes from the price proxies to the appropriate cost categories. We 
repeat this practice for each year.) Therefore, we derive approximately 
80 percent of the 2004-based SNF market basket from FY 2004 Medicare 
cost report data for freestanding SNFs.
    Below is a table comparing the proposed 2004-based SNF market 
basket using the proposed Medicare allowable methodology and the 
proposed 2004-based SNF market basket using the total facility 
methodology.

[[Page 25548]]

[GRAPHIC] [TIFF OMITTED] TP04MY07.052

    Using the Medicare allowable methodology does affect the individual 
cost weights of the SNF market basket. The compensation cost weight 
using the Medicare allowable methodology is higher than that calculated 
using the total facility methodology. This is primarily due to the 
exclusion of long term care hospital (LTCH) and nonreimbursable 
inpatient costs (including, but not limited to gift, flower, coffee, 
barber shops and physician private offices) from the Medicare allowable 
cost weight. In addition, LTCH and nonreimbursable

[[Page 25549]]

services tend to be less labor intensive; therefore, the exclusion of 
these costs from the Medicare allowable market basket results in a 
higher compensation weight than the compensation weight in the total 
facility market basket.
    The capital cost weight using the Medicare allowable methodology is 
slightly lower than the total facility methodology. This is also 
primarily due to the exclusion of LTCH and nonreimbursable inpatient 
costs.
    Below is a table comparing the proposed 2004-based SNF market 
basket with the currently used 1997-based SNF market basket.
[GRAPHIC] [TIFF OMITTED] TP04MY07.053

C. Price Proxies Used To Measure Cost Category Growth

    After developing the 23 cost weights for the proposed revised and 
rebased SNF market basket, we selected the most appropriate wage and 
price proxies currently available to monitor the rate of change for 
each expenditure category. With four exceptions (three for the capital-
related expenses cost categories and one for PLI), we base the wage and 
price proxies on Bureau of Labor Statistics (BLS) data, and group them 
into one of the following BLS categories:
     Employment Cost Indexes. Employment Cost Indexes (ECIs)

[[Page 25550]]

measure the rate of change in employment wage rates and employer costs 
for employee benefits per hour worked. These indexes are fixed-weight 
indexes and strictly measure the change in wage rates and employee 
benefits per hour. ECIs are superior to Average Hourly Earnings (AHE) 
as price proxies for input price indexes because they are not affected 
by shifts in occupation or industry mix, and because they measure pure 
price change and are available by both occupational group and by 
industry. ECIs were based on NAICS (North American Industrial 
Classification System) rather than SIC (Standard Industrial 
Classification) in April 2006 with the publication of March 2006 data.
     Producer Price Indexes. Producer Price Indexes (PPIs) 
measure price changes for goods sold in markets other than retail 
markets. PPIs are used when the purchases of goods or services are made 
at the wholesale level.
     Consumer Price Indexes. Consumer Price Indexes (CPIs) 
measure changes in the prices of final goods and services bought by 
consumers. CPIs are only used when the purchases are similar to those 
of retail consumers rather than purchases at the wholesale level, or if 
no appropriate PPI were available.
    We evaluated the price proxies using the criteria of reliability, 
timeliness, availability, and relevance. Reliability indicates that the 
index is based on valid statistical methods and has low sampling 
variability. Widely accepted statistical methods ensure that the data 
were collected and aggregated in a way that can be replicated. Low 
sampling variability is desirable because it indicates that the sample 
reflects the typical members of the population. (Sampling variability 
is variation that occurs by chance because only a sample was surveyed 
rather than the entire population.) Timeliness implies that the proxy 
is published regularly, preferably at least once a quarter. The market 
baskets are updated quarterly and, therefore, it is important for the 
underlying price proxies to be up-to-date, reflecting the most recent 
data available. We believe that using proxies that are published 
regularly (at least quarterly, whenever possible) helps to ensure that 
we are using the most recent data available to update the market 
basket. We strive to use publications that are disseminated frequently, 
because we believe that this is an optimal way to stay abreast of the 
most current data available. Availability means that the proxy is 
publicly available. We prefer that our proxies are publicly available 
because this will help ensure that our market basket updates are as 
transparent to the public as possible. In addition, this enables the 
public to be able to obtain the price proxy data on a regular basis. 
Finally, relevance means that the proxy is applicable and 
representative of the cost category weight to which it is applied. The 
CPIs, PPIs, and ECIs that we have selected to propose in this 
regulation meet these criteria. Therefore, we believe that they 
continue to be the best measure of price changes for the cost 
categories to which they would be applied.
    Table 19 lists all price proxies for the proposed revised and 
rebased SNF market basket. Below is a detailed explanation of the price 
proxies used for each cost category weight.
1. Wages and Salaries
    For measuring price growth in the wages and salaries cost component 
of the proposed 2004-based SNF market basket, we propose using the 
percentage change of a blended index based on 50 percent of the ECI for 
wages and salaries for nursing and residential care facilities (NAICS 
623) and 50 percent of the ECI for wages and salaries for hospital 
workers (NAICS 622).
    The 1997-based SNF market basket uses the ECI for nursing and 
residential care facilities as a proxy, which is based on the Standard 
Industrial Code (SIC) 805. Beginning in April 2006 with the publication 
of March 2006 data, ECIs were converted from an SIC basis to an NAICS 
basis. The ECI for wages and salaries for nursing and residential care 
facilities was replaced with an index that was less representative of 
skilled nursing facilities, NAICS 623. NAICS 623 represents facilities 
that provide residential care combined with nursing, supervisory, or 
other types of care. The care provided is a mix of health and social 
services with the health services being largely some level of nursing 
services. Within NAICS 623 is NAICS 623100, nursing care facilities 
primarily engaged in providing inpatient nursing and rehabilitative 
services. These facilities, which are most comparable to Medicare-
certified SNFs, provide skilled nursing and continuous personal care 
services for an extended period of time and therefore, have a permanent 
core staff of registered or licensed practical nurses.
    Employment in nursing care facilities (NAICS 623100) represents 
approximately 56 percent of 2003 and 2004 employment in nursing and 
residential care (NAICS 623). The SIC-based wage proxy, the ECI for 
nursing and personal care facilities based on SIC 805, includes skilled 
nursing care facilities (SIC 8051), which accounts for approximately 75 
percent of the employment. Therefore, the SIC based ECI is more 
representative of Medicare-certified skilled nursing facilities than 
the NAICS based ECI.
    BLS began publishing ECI data for the more detailed nursing care 
facilities (NAICS 623100) beginning with 2006, first quarter. However, 
given the lack of historical data, Global Insight Inc., the economic 
forecasting firm used to forecast the price proxies of the market 
basket, is unable to develop a forecasting model for this detailed 
NAICS ECI. In the future, when sufficient data are available to 
forecast the ECI for NAICS 623100, we will evaluate the use of this 
price proxy in the SNF market basket. For now, we have researched and 
developed several alternative wage and salary price proxies, which we 
describe in detail below. All of the five alternative wage and salary 
price proxies use the Occupational Employment Statistics (OES) survey 
published by BLS to develop occupational weights. The first four 
options use the OES data to create economy-wide occupational groups 
while the fifth option uses OES data to measure healthcare specific 
occupational groups.
    The first proxy (option 1) is a blended wage index composed of four 
occupational groups that appear in NAICS. The weights of the four 
economy-wide occupational groups (professional and technical, services, 
clerical, and managers) are equal to the shares of total payroll for 
NAICS 6231 that each occupational group constitutes. We proxied each 
occupational group by a representative ECI to create a blended wage 
index. Therefore, the professional and technical (P&T) occupational 
group is a proxy to the ECI for professional and technical workers. The 
services occupational group is a proxy to the ECI for service workers. 
The clerical occupational group is a proxy to the ECI for clerical 
workers. The managers occupational group is a proxy to the ECI for 
executive, administrative, and managerial occupations.
    The second alternative index (option 2) uses the same methodology 
as the option 1 wage proxy, except that we would base the occupational 
group weights on employment data rather than payroll data from the BLS 
OES.
    The third alternative index (option 3) again uses a methodology 
similar to options 1 and 2, but would increase the weight for P&T 
workers by one-half of the difference between the hospital P&T 
employment share and the nursing care facility P&T employment share. As 
the P&T share increases, the other weights

[[Page 25551]]

would be normalized and would decrease slightly so the weights for all 
occupational groups add to 1.0.
    The fourth alternative index (option 4) increases the weight of P&T 
workers by one-third of the difference between the hospital P&T 
employment share and the nursing care facility P&T employment share. 
Again, as the P&T share increases, the weights of the other 4 
occupational groups would decrease through the normalization.
    The last proposed alternative index (option 5) is a blended wage 
index based on 50 percent of the ECI for hospital workers (NAICS 622) 
and 50 percent of the ECI nursing and residential care facility (NAICS 
623). We estimate the weights of 50 percent from BLS OES data, which 
show that the share of payroll attributable to registered nurses, 
licensed practical and licensed vocational nurses, and health care 
practitioners and technical occupations for nursing care facilities 
(NAICS 623) is 50 percent of the share of payroll for the same 
occupations as for hospitals.
    We propose to use the option 5 index, because we believe that the 
new ECI for nursing and residential care facilities based on NAICS 623 
will no longer accurately represent the skilled nursing and healthcare 
staff employed at Medicare-certified SNFs. Using a blended index of the 
ECI for nursing and residential care and the ECI for hospital workers 
gives more weight to the percent changes of wages and salaries for 
these skilled healthcare workers, who are also employed at hospitals. 
As the data indicate, the hospital industry occupational mix is more 
skilled than that of a Medicare-certified SNF, so we believe that a 
blend of the two indexes would be the best alternative given the data 
limitations.
    We believe the major drawback of options 1 through 4 is that while 
these indexes may reflect the use of more skilled healthcare staff, the 
types of P&T workers represented in the ECI for P&T workers are not 
heavily weighted toward healthcare professional and technical workers.
2. Employee Benefits
    For measuring price growth in the benefit cost component of the 
2004-based SNF market basket, we propose using the percentage change of 
a blended index based on 50 percent of the ECI for benefits for nursing 
and residential care facilities (NAICS 623) and 50 percent of the ECI 
for benefits for hospital workers (NAICS 622). For the same reasons 
noted above for the wages and salaries cost category, we believe this 
blended index is the best proxy for employee benefit price growth.
    Below is a table comparing the market basket percent changes using 
the proposed wage and benefit proxies and the alternative wage and 
benefit proxies (options 1 through 4). For the historical period 
between FY 2002 and FY 2006, the difference between the proposed market 
basket and the market baskets using the alternative compensation price 
proxies is significant. This is the result of the healthcare 
professional and technical occupations' compensation increasing faster 
than overall professional and technical occupations. The largest 
difference occurred in FY 2002, when the proposed market basket 
increased 3.7 percent compared to an increase in the alternative 
compensation market baskets of 2.5 percent.
    For the forecasted time period (FY 2007 to FY 2010), the difference 
between the proposed market basket and the alternative compensation 
market baskets is less than the historical difference. This is a result 
of the expectation that compensation inflationary pressures in the 
healthcare industry will lessen and the price changes associated with 
healthcare professional and technical compensation will be comparable 
to the price changes associated with overall professional and technical 
compensation. As stated previously, we believe the blended index of the 
ECI for nursing and residential care and the ECI for hospital workers 
best reflects the occupational mix (specifically, skilled healthcare 
workers) of SNFs serving Medicare patients.
[GRAPHIC] [TIFF OMITTED] TP04MY07.054


[[Page 25552]]


3. All Other Expenses
     Nonmedical professional fees: We are proposing to use the 
ECI for compensation for Private Industry Professional, Technical, and 
Specialty Workers to measure price changes in nonmedical professional 
fees. We used the same index in the 1997-based SNF market basket.
     Professional liability insurance: We were unable to find a 
price proxy that directly tracks the prices associated with SNF 
malpractice costs. Our desired price proxy would calculate the price 
changes for a fixed coverage of SNF general liability insurance (for 
example, $1 million/$3 million liability coverage). It would not, by 
definition of a fixed weight index, reflect the increase in costs 
associated with increases in coverage, because that is found in the 
malpractice cost weight.
    We have met with representatives for the SNF industry on this 
subject. We have also reviewed several studies on nursing home and 
long-term care liability insurance, all of which state that the cost of 
malpractice insurance has increased significantly over the last five 
years. Our own analysis of SNF malpractice costs, as reported on the 
Medicare cost reports, shows that from 1999 to 2003, malpractice costs 
per bed have increased over 300 percent. This increase in costs is also 
seen in the malpractice cost weight, which has more than doubled over 
the same time period.
    The difficulties associated with pricing malpractice costs are 
experienced in all healthcare sectors, including hospitals and 
physicians. In addition to the lack of comprehensive data, the 
questions of how to proxy self-insurance, how to allocate paid losses 
over time, and how to account for those providers who are unable to 
purchase the insurance, make the process of measuring price changes 
associated with malpractice insurance extremely difficult. We are 
currently researching alternative data sources, such as obtaining the 
data directly from the individual states' Departments of Insurance. 
Given the lack of SNF-specific data, we are proposing to use the CMS 
Hospital Professional Liability Index, which tracks price changes for 
commercial insurance premiums for a fixed level of coverage, holding 
non-price factors constant (such as a change in the level of coverage).
     Electricity: For measuring price change in the electricity 
cost category, we are proposing to use the PPI for Commercial Electric 
Power. We used the same index in the 1997-based SNF market basket.
     Fuels, nonhighway: For measuring price change in the 
Fuels, Nonhighway cost category, we are proposing to use the PPI for 
Commercial Natural Gas. We used the same index in the 1997-based SNF 
market basket.
     Water and Sewerage: For measuring price change in the 
Water and Sewerage cost category, we are proposing to use the CPI-U 
(Consumer Price Index for All Urban Consumers) for Water and Sewerage. 
We used the same index in the 1997-based SNF market basket.
     Food-wholesale purchases: For measuring price change in 
the Food-wholesale purchases cost category, we are proposing to use the 
PPI for Processed Foods. We used the same index in the 1997-based SNF 
market basket.
     Food-retail purchases: For measuring price change in the 
Food-retail purchases cost category, we are proposing to use the CPI-U 
for Food Away From Home. This reflects the use of contract food service 
by some SNFs. We used the same index in the 1997-based SNF market 
basket.
     Pharmaceuticals: For measuring price change in the 
Pharmaceuticals cost category, we are proposing to use the PPI for 
Prescription Drugs. We used the same index in the 1997-based SNF market 
basket.
     Chemicals: For measuring price change in the Chemicals 
cost category, we are proposing to use a blended PPI composed of the 
PPIs for soap and other detergent manufacturing (NAICS 325611), polish 
and other sanitation good manufacturing (NAICS 325612), and all other 
miscellaneous chemical product manufacturing (NAICS 325998). Using the 
1997 Benchmark I-O data, we found that the latter NAICS industries 
accounted for approximately 65 percent of SNF chemical expenses. 
Therefore, we are proposing to use this index because we believe it 
better reflects purchasing patterns of SNFs than PPI for Industrial 
Chemicals, the proxy used in the 1997-based market basket.
     Rubber and Plastics: For measuring price change in the 
Rubber and Plastics cost category, we are proposing to use the PPI for 
Rubber and Plastic Products. We used the same index in the 1997-based 
SNF market basket.
     Paper Products: For measuring price change in the Paper 
Products cost category, we are proposing to use the PPI for Converted 
Paper and Paperboard. We used the same index in the 1997-based SNF 
market basket.
     Miscellaneous Products: For measuring price change in the 
Miscellaneous Products cost category, we are proposing to use the PPI 
for Finished Goods less Food and Energy. Both food and energy are 
already adequately represented in separate cost categories and should 
not also be reflected in this cost category. We used the same index in 
the 1997-based SNF market basket.
     Telephone Services: For measuring the price change in the 
telephone services, we are proposing to use the CPI-U applied to this 
component. We used the same index in the 1997-based SNF market basket.
     Postage: For measuring the price change in postage costs, 
we are proposing to use the CPI for postage. The 1997-based index did 
not have a separate cost category for postage.
     Labor-Intensive Services: For measuring price change in 
the Labor-Intensive Services cost category, we are proposing to use the 
ECI for Compensation for Private Service Occupations. We used the same 
index in the 1997-based SNF market basket.
     Non Labor-Intensive Services: For measuring price change 
in the Non Labor-Intensive Services cost category, we are proposing to 
use the CPI-U for All Items. We used the same index in the 1997-based 
SNF market basket.
4. Capital-Related
    All capital-related expense categories have the same price proxies 
as those used in the 1992-based SNF PPS market basket described in the 
May 12, 1998 interim final rule (63 FR 26252) and the 1997-based SNF 
PPS market basket described in the July 31, 2001 final rule (66 FR 
39581). We describe the price proxies for the SNF capital-related 
expenses below:
     Depreciation--Building and Fixed Equipment: For measuring 
price change in this cost category, we are proposing to use the Boeckh 
Institutional Construction Index.
     Depreciation--Movable Equipment: For measuring price 
change in this cost category, we are proposing to use the PPI for 
Machinery and Equipment.
     Interest--Government and Nonprofit SNFs: For measuring 
price change in this cost category, we are proposing to use the Average 
Yield for Municipal Bonds from the Bond Buyer Index of 20 bonds. CMS 
input price indexes, including this rebased and revised SNF market 
basket, appropriately reflect the rate of change in the price proxy and 
not the level of the price proxy. While SNFs may face different 
interest rate levels than those included in the Bond Buyer Index, the 
rate of change between the two is not significantly different.
     Interest--For-profit SNFs: For measuring price change in 
this cost category, we are proposing to use the

[[Page 25553]]

Average Yield for Moody's AAA Corporate Bonds. Again, the proposed 
rebased SNF index focuses on the rate of change in this interest rate, 
not on the level of the interest rate.
     Other Capital-related Expenses: For measuring price change 
in this cost category, we are proposing the CPI-U for Residential Rent.
    Below is a table showing the proposed price proxies for the FY 
2004-based SNF Market Basket.
BILLING CODE 4210-01-P

[[Page 25554]]

[GRAPHIC] [TIFF OMITTED] TP04MY07.055


[[Page 25555]]


BILLING CODE 4210-01-C

D. Proposed Market Basket Estimate for the FY 2008 SNF Update

    As discussed previously in this proposed rule, beginning with the 
FY 2008 SNF PPS update, we are proposing to adopt the FY 2004-based SNF 
market basket as the appropriate market basket of goods and services 
for the SNF PPS.
    Based on Global Insight's 1st quarter 2007 forecast with history 
through the 4th quarter of 2006, the most recent estimate of the 
proposed 2004-based SNF market basket for FY 2008 is 3.3 percent. 
Global Insight, Inc. is a nationally recognized economic and financial 
forecasting firm that contracts with CMS to forecast the components of 
CMS's market baskets. Based on Global Insight's 1st quarter 2007 
forecast with historical data through the 4th quarter of 2006, the 
estimate of the current 1997-based SNF market basket for FY 2008 is 3.5 
percent.
    Table 20 compares the proposed FY 2004-based SNF market basket and 
the FY 1997-based SNF market basket percent changes. For the historical 
period between FY 2002 and FY 2006, the average difference between the 
two market baskets is 0.3 percentage points. This is primarily the 
result of a higher compensation cost weight and higher compensation 
price increases in the 2004-based market basket compared to the 1997-
based SNF market basket. Also contributing is the separate cost 
category weight for malpractice in the 2004-based SNF market basket and 
the relatively higher price increases. For the forecasted period 
between FY 2007 and FY 2010, the average difference in the market 
basket forecasts is minor.
[GRAPHIC] [TIFF OMITTED] TP04MY07.056

V. Consolidated Billing

    [If you choose to comment on issues in this section, please include 
the caption ``Consolidated Billing'' at the beginning of your 
comments.]
    Section 4432(b) of the BBA established a consolidated billing 
requirement that places with the SNF the Medicare billing 
responsibility for virtually all of the services that the SNF's 
residents receive, except for a small number of services that the 
statute specifically identifies as being excluded from this provision. 
As noted previously in section I. of this proposed rule, subsequent 
legislation enacted a number of modifications in the consolidated 
billing provision.
    Specifically, section 103 of the BBRA amended this provision by 
further excluding a number of individual ``high-cost, low-probability'' 
services, identified by the Healthcare Common Procedure Coding System 
(HCPCS) codes, within several broader categories (chemotherapy and its 
administration, radioisotope services, and customized prosthetic 
devices) that otherwise remained subject to the provision. We discuss 
this BBRA amendment in greater detail in the proposed and final rules 
for FY 2001 (65 FR 19231-19232, April 10, 2000, and 65 FR 46790-46795, 
July 31, 2000), as well as in Program Memorandum AB-00-18 (Change 
Request 1070), issued March 2000, which is available online at 
www.cms.hhs.gov/transmittals/downloads/ab001860.pdf.
    Section 313 of the BIPA further amended this provision by repealing 
its Part B aspect; that is, its applicability to Part B services 
furnished to a resident during an SNF stay that Medicare Part A does 
not cover. However, physical, occupational, and speech-language therapy 
remain subject to consolidated billing, regardless of whether the 
resident who receives these services is in a covered Part A stay. We 
discuss this BIPA amendment in greater detail in the proposed and final 
rules for FY 2002 (66 FR 24020-24021, May 10, 2001, and 66 FR 39587-
39588, July 31, 2001).
    In addition, section 410 of the MMA amended this provision by 
excluding certain practitioner and other services furnished to SNF 
residents by RHCs and FQHCs. We discuss this MMA

[[Page 25556]]

amendment in greater detail in the update notice for FY 2005 (69 FR 
45818-45819, July 30, 2004), as well as in Program Transmittal 
390 (Change Request 3575), issued December 10, 2004, 
which is available online at www.cms.hhs.gov/transmittals/downloads/r390cp.pdf.
    To date, the Congress has enacted no further legislation affecting 
the consolidated billing provision. However, as noted above and 
explained in the proposed rule for FY 2001 (65 FR 19232, April 10, 
2000), the amendments enacted in section 103 of the BBRA not only 
identified for exclusion from this provision a number of particular 
service codes within four specified categories (that is, chemotherapy 
items, chemotherapy administration services, radioisotope services, and 
customized prosthetic devices), but also gave the Secretary `` * * * 
the authority to designate additional, individual services for 
exclusion within each of the specified service categories.'' In the 
proposed rule for FY 2001, we also noted that the BBRA Conference 
report (H.R. Rep. No. 106-479 at 854 (1999) (Conf. Rep.)) characterizes 
the individual services that this legislation targets for exclusion as 
`` * * * high-cost, low probability events that could have devastating 
financial impacts because their costs far exceed the payment [SNFs] 
receive under the prospective payment system * * *'' According to the 
conferees, section 103(a) ``is an attempt to exclude from the PPS 
certain services and costly items that are provided infrequently in 
SNFs * * *'' By contrast, we noted that the Congress declined to 
designate for exclusion any of the remaining services within those four 
categories (thus leaving all of those services subject to SNF 
consolidated billing), because they are relatively inexpensive and are 
furnished routinely in SNFs.
    As we further explained in the final rule for FY 2001 (65 FR 46790, 
July 31, 2000), and as our longstanding policy, any additional service 
codes that we might designate for exclusion under our discretionary 
authority must meet the same criteria that the Congress used in 
identifying the original codes excluded from consolidated billing under 
section 103(a) of the BBRA: they must fall within one of the four 
service categories specified in the BBRA, and they also must meet the 
same standards of high cost and low probability in the SNF setting. 
Accordingly, we characterized this statutory authority to identify 
additional service codes for exclusion ``* * * as essentially affording 
the flexibility to revise the list of excluded codes in response to 
changes of major significance that may occur over time (for example, 
the development of new medical technologies or other advances in the 
state of medical practice)'' (65 FR 46791). In view of the time that 
has elapsed since we last invited comments on this issue, we believe it 
is appropriate at this point once again to invite public comments that 
identify codes in any of these four service categories representing 
recent medical advances that might meet our criteria for exclusion from 
SNF consolidated billing.
    We note that the original BBRA legislation (as well as the 
implementing regulations) identified a set of excluded services by 
means of specifying HCPCS codes that were in effect as of a particular 
date (in that case, as of July 1, 1999). Identifying the excluded 
services in this manner made it possible for us to utilize program 
issuances as the vehicle for accomplishing routine updates of the 
excluded codes, in order to reflect any minor revisions that might 
subsequently occur in the coding system itself (for example, the 
assignment of a different code number to the same service). 
Accordingly, in the event that we identify through the current 
rulemaking cycle any new services that would actually represent a 
substantive change in the scope of the exclusions from SNF consolidated 
billing, we would identify these additional excluded services by means 
of the HCPCS codes that are in effect as of a specific date (in this 
case, as of October 1, 2007). By making any new exclusions in this 
manner, we could similarly accomplish routine future updates of these 
additional codes through the issuance of program instructions.

VI. Application of the SNF PPS to SNF Services Furnished by Swing-Bed 
Hospitals

    [If you choose to comment on issues in this section, please include 
the caption ``Swing-Bed Hospitals'' at the beginning of your comments.]
    In accordance with section 1888(e)(7) of the Act as amended by 
section 203 of the BIPA, Part A pays CAHs on a reasonable cost basis 
for SNF services furnished under a swing-bed agreement, as previously 
indicated in sections I.A. and I.D. of this proposed rule. However, 
effective with cost reporting periods beginning on or after July 1, 
2002, the swing-bed services of non-CAH rural hospitals are paid under 
the SNF PPS. As explained in the final rule for FY 2002 (66 FR 39562, 
July 31, 2001), we selected this effective date consistent with the 
statutory provision to integrate non-CAH swing-bed rural hospitals into 
the SNF PPS by the end of the SNF transition period, June 30, 2002.
    Accordingly, all non-CAH swing-bed rural hospitals have come under 
the SNF PPS as of June 30, 2003. Therefore, all rates and wage indexes 
outlined in earlier sections of this proposed rule for the SNF PPS also 
apply to all non-CAH swing-bed rural hospitals. A complete discussion 
of assessment schedules, the MDS and the transmission software (Raven-
SB for Swing Beds) appears in the final rule for FY 2002 (66 FR 39562, 
July 31, 2001). The latest changes in the MDS for non-CAH swing-bed 
rural hospitals appear on our SNF PPS website, www.cms.hhs.gov/snfpps.

VII. Provisions of the Proposed Rule

    [If you choose to comment on issues in this section, please include 
the caption ``Provisions of the Proposed Rule'' at the beginning of 
your comments.]
    We propose to update the payment rates used under the prospective 
payment system for SNFs for FY 2008. In addition, we propose to rebase 
the market basket to a base year of 2004 and propose the following 
market basket revisions: using Medicare allowable total cost data 
instead of facility total cost data to derive the SNF market basket 
cost weights; using new wage and salary, benefits and chemical price 
proxies; using new data to estimate useful lives for fixed and moveable 
equipment; and adding new cost categories for professional liability 
insurance and postage. Also, as discussed previously in sections I.F.2 
and III.B of this proposed rule, we are proposing to raise the current 
0.25 percentage point threshold for the forecast error adjustment under 
the SNF PPS to 0.5 percentage point, effective with FY 2008.

VIII. Collection of Information Requirements

    [If you choose to comment on issues in this section, please include 
the caption ``Collection of Information'' at the beginning of your 
comments.]
    This document does not impose any information collection and 
recordkeeping requirements. Consequently, it need not be reviewed by 
the Office of Management and Budget under the authority of the 
Paperwork Reduction Act of 1995 (44 U.S.C. 3501).

IX. Regulatory Impact Analysis

    [If you choose to comment on issues in this section, please include 
the caption ``Impact Analysis'' at the beginning of your comments.]

[[Page 25557]]

A. Overall Impact

    We have examined the impacts of this proposed rule as required by 
Executive Order 12866 (September 1993, Regulatory Planning and Review), 
the Regulatory Flexibility Act (RFA, Pub. L. 96-354, September 16, 
1980), section 1102(b) of the Social Security Act (the Act), the 
Unfunded Mandates Reform Act of 1995 (UMRA, Pub. L. 104-4), and 
Executive Order 13132.
    Executive Order 12866 (as amended by Executive Order 13258, which 
only reassigns responsibility of duties) directs agencies to assess all 
costs and benefits of available regulatory alternatives and, if 
regulation is necessary, to select regulatory approaches that maximize 
net benefits (including potential economic, environmental, public 
health and safety effects, distributive impacts, and equity). A 
regulatory impact analysis (RIA) must be prepared for major rules with 
economically significant effects ($100 million or more in any one 
year). This proposed rule is major, as defined in Title 5, United 
States Code, section 804(2), because we estimate the impact of the 
standard update will be to increase payments to SNFs by approximately 
$690 million.
    The proposed update set forth in this proposed rule would apply to 
payments in FY 2008. Accordingly, the analysis that follows describes 
the impact of this one year only. In accordance with the requirements 
of the Act, we will publish a notice for each subsequent FY that will 
provide for an update to the payment rates and include an associated 
impact analysis.
    The RFA requires agencies to analyze options for regulatory relief 
of small businesses. For purposes of the RFA, small entities include 
small businesses, nonprofit organizations, and government agencies. 
Most SNFs and most other providers and suppliers are small entities, 
either by their nonprofit status or by having revenues of $11.5 million 
or less in any one year. For purposes of the RFA, approximately 53 
percent of SNFs are considered small businesses according to the Small 
Business Administration's latest size standards, with total revenues of 
$11.5 million or less in any one year (for further information, see 65 
FR 69432, November 17, 2000). Individuals and States are not included 
in the definition of a small entity. In addition, approximately 29 
percent of SNFs are nonprofit organizations.
    This proposed rule would update the SNF PPS rates published in the 
update notice for FY 2007 (71 FR 43158, July 31, 2006) and the 
associated correction notice (71 FR 57519, September 29, 2006), thereby 
increasing aggregate payments by an estimated $690 million. As 
indicated in Table 20, the effect on facilities will be an aggregate 
positive impact of 3.3 percent. We note that some individual providers 
may experience larger increases in payments than others due to the 
distributional impact of the FY 2008 wage indexes and the degree of 
Medicare utilization. While this proposed rule is considered major, its 
overall impact is extremely small; that is, less than 3 percent of 
total SNF revenues from all payor sources. As the overall impact is 
positive on the industry as a whole, and on small entities 
specifically, it is not necessary to consider regulatory alternatives.
    In addition, section 1102(b) of the Act requires us to prepare a 
regulatory impact analysis if a rule may have a significant impact on 
the operations of a substantial number of small rural hospitals. This 
analysis must conform to the provisions of section 603 of the RFA. For 
purposes of section 1102(b) of the Act, we define a small rural 
hospital as a hospital that is located outside of a Metropolitan 
Statistical Area and has fewer than 100 beds. Because the proposed 
increase in SNF payment rates set forth in this proposed rule also 
applies to rural non-CAH hospital swing-bed services, we believe that 
this proposed rule would have a positive fiscal impact on non-CAH 
swing-bed rural hospitals.
    Section 202 of the Unfunded Mandates Reform Act of 1995 also 
requires that agencies assess anticipated costs and benefits before 
issuing any rule whose mandates require spending in any 1 year of $100 
million in 1995 dollars, updated annually for inflation. That threshold 
level is currently approximately $120 million. This proposed rule would 
not have a substantial effect on State, local, or tribal governments, 
or on private sector costs.
    Executive Order 13132 establishes certain requirements that an 
agency must meet when it promulgates regulations that impose 
substantial direct requirement costs on State and local governments, 
preempts State law, or otherwise has Federalism implications. As stated 
above, this proposed rule would have no substantial effect on State and 
local governments.

B. Anticipated Effects

    This proposed rule sets forth proposed updates of the SNF PPS rates 
contained in the update notice for FY 2007 (71 FR 43158, July 31, 2006) 
and the associated correction notice (71 FR 57519, September 29, 2006). 
Based on the above, we estimate the FY 2008 impact will be a net 
increase of $690 million in payments to SNF providers. The impact 
analysis of this proposed rule represents the projected effects of the 
changes in the SNF PPS from FY 2007 to FY 2008. We estimate the effects 
by estimating payments while holding all other payment variables 
constant. We use the best data available, but we do not attempt to 
predict behavioral responses to these changes, and we do not make 
adjustments for future changes in such variables as days or case-mix.
    We note that certain events may combine to limit the scope or 
accuracy of our impact analysis, because such an analysis is future-
oriented and, thus, very susceptible to forecasting errors due to other 
changes in the forecasted impact time period. Some examples of such 
possible events include new legislation requiring funding changes to 
the Medicare, or legislative changes that specifically affect SNFs. In 
addition, changes to the Medicare program may continue to be made as a 
result of the BBA, the BBRA, the BIPA, the MMA, or new statutory 
provisions. Although these changes may not be specific to the SNF PPS, 
the nature of the Medicare program is such that the changes may 
interact, and the complexity of the interaction of these changes could 
make it difficult to predict accurately the full scope of the impact 
upon SNFs.
    In accordance with section 1888(e)(4)(E) of the Act, we update the 
payment rates for FY 2008 by a factor equal to the full market basket 
index percentage increase to determine the payment rates for FY 2008. 
The special AIDS add-on established by section 511 of the MMA remains 
in effect until ``* * * such date as the Secretary certifies that there 
is an appropriate adjustment in the case mix * * *.'' We have not 
provided a separate impact analysis for the MMA provision. Our latest 
estimates indicate that there are less than 2,000 beneficiaries who 
qualify for the AIDS add-on payment. The impact to Medicare is included 
in the ``total'' column of Table 21. In proposing to update the rates 
for FY 2008, we made a number of standard annual revisions and 
clarifications mentioned elsewhere in this proposed rule (for example, 
the update to the wage and market basket indexes used for adjusting the 
Federal rates). These revisions would increase payments to SNFs by 
approximately $690 million.
    The impacts are shown in Table 21. The breakdown of the various 
categories of data in the table follows.
    The first column shows the breakdown of all SNFs by urban or rural

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status, hospital-based or freestanding status, and census region.
    The first row of figures in the first column describes the 
estimated effects of the various changes on all facilities. The next 
six rows show the effects on facilities split by hospital-based, 
freestanding, urban, and rural categories. The urban and rural 
designations are based on the location of the facility under the CBSA 
designation. The next twenty-two rows show the effects on urban versus 
rural status by census region.
    The second column in the table shows the number of facilities in 
the impact database.
    The third column of the table shows the effect of the annual update 
to the wage index. This represents the effect of using the most recent 
wage data available. The total impact of this change is zero percent; 
however, there are distributional effects of the change.
    The fourth column shows the effect of all of the changes on the FY 
2008 payments. The market basket increase of 3.3 percentage points is 
constant for all providers and, though not shown individually, is 
included in the total column. It is projected that aggregate payments 
will increase by 3.3 percent in total, assuming facilities do not 
change their care delivery and billing practices in response.
    As can be seen from this table, the combined effects of all of the 
changes vary by specific types of providers and by location. For 
example, though facilities in the rural Outlying region experience a 
payment decrease of 0.5 percent, some providers (such as those in the 
urban Outlying region) show a significant increase of 5.7 percent. 
Payment increases for facilities in the urban Outlying area of the 
country are the highest for any provider category.
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C. Accounting Statement

    As required by OMB Circular A-4 (available at www.whitehouse.gov/omb/circulars/a004/a-4.pdf), in Table 22 below, we have prepared an 
accounting statement showing the classification of the expenditures 
associated with the provisions of this proposed rule. This table 
provides our best estimate of the change in Medicare payments under the 
SNF PPS as a result of the policies in this proposed rule based on the 
data for 15,271 SNFs in our database. All expenditures are classified 
as transfers to Medicare providers (that is, SNFs).

      Table 22.--Accounting Statement: Classification of Estimated
 Expenditures, From the 2007 SNF PPS Rate Year to the 2008 SNF PPS Rate
                                  Year
                              [In millions]
------------------------------------------------------------------------
                Category                            Transfers
------------------------------------------------------------------------
Annualized Monetized Transfers.........  $690 million.
From Whom To Whom?.....................  Federal Government to SNF
                                          Medicare Providers.
------------------------------------------------------------------------

D. Alternatives Considered

    Section 1888(e) of the Act establishes the SNF PPS for the payment 
of Medicare SNF services for cost reporting periods beginning on or 
after July 1, 1998. This section of the statute prescribes a detailed 
formula for calculating payment rates under the SNF PPS, and does not 
provide for the use of any alternative methodology. It specifies that 
the base year cost data to be used for computing the SNF PPS payment 
rates must be from FY 1995 (October 1, 1994 through September 30, 
1995.) In accordance with the statute, we also incorporated a number of 
elements into the SNF PPS, such as case-mix classification methodology, 
the MDS assessment schedule, a market basket index, a wage index, and 
the urban and rural distinction used in the development or adjustment 
of the Federal rates. Further, section 1888(e)(4)(H) of the Act 
specifically requires us to disseminate the payment rates for each new 
fiscal year through the Federal Register, and to do so before the 
August 1 that precedes the start of the new fiscal year. Accordingly, 
we are not pursuing alternatives with respect to the payment 
methodology as discussed above.
    The proposed rule would raise the threshold for triggering a 
forecast error adjustment under the SNF PPS from the current 0.25 
percentage point to 0.5 percentage point, effective with FY 2008. 
However, as discussed in sections I.F.2 and III.B of this proposed 
rule, we are considering a higher threshold for the forecast error 
adjustment, up to 1.0 percentage point. We are also considering 
delaying implementation of this change until FY 2009. We specifically 
invite comments on increasing the forecast error adjustment threshold 
and the effective date.

E. Conclusion

    This proposed rule does not propose to initiate any policy changes 
with regard to the SNF PPS; rather, it simply proposes an update to the 
rates for FY 2008. Therefore, for the reasons set forth in the 
preceding discussion, we are not preparing analyses for either the RFA 
or section 1102(b) of the Act, because we have determined that this 
proposed rule would not have a significant economic impact on a 
substantial number of small entities or a significant impact on the 
operations of a substantial number of small rural hospitals. Also, an 
analysis as outlined in section 202 of the UMRA has not been completed 
because this proposed rule would not have a substantial effect on the 
governments mentioned, or on private sector costs.
    Finally, in accordance with the provisions of Executive Order 
12866, this regulation was reviewed by the Office of Management and 
Budget.

(Catalog of Federal Domestic Assistance Program No. 93.773, 
Medicare-Hospital Insurance Program; and No. 93.774, Medicare-
Supplementary Medical Insurance Program)

    Dated: March 8, 2007.
Leslie V. Norwalk,
Acting Administrator, Centers for Medicare & Medicaid Services.
    Dated: March 28, 2007.
Michael O. Leavitt,
Secretary.

[Note: The following Addendum will not appear in the Code of Federal 
Regulations]

Addendum--FY 2008 CBSA Wage Index Tables

    In this addendum, we provide Tables 8 and 9 which indicate the 
CBSA-based wage index values for urban and rural providers.

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[FR Doc. 07-2180 Filed 4-30-07; 4:00 pm]
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